What has the RBI done?
- Late
on Monday, RBI moved in to check speculation in the currency market and
fixed a daily limit on how much banks can borrow from the central bank --
1% of banks' deposit base or R75,000 crore for the entire banking
system.
- If
a bank requires more funds, it can borrow emergency money using the
marginal standing facility (MSF) at sharply costlier 10.25% interest rate from 8.25% earlier.
- This,
however, may push banks to raise lending rates for auto, home and other
borrowers.
- The
central bank will also sell government bonds worth R12,000 crore in the secondary
market to suck out liquidity.
What
is marginal standing facility (MSF)?
The MSF rate is the rate at which banks borrow from the RBI during
periods of acute liquidity shortage using their statutory liquidity ratio (SLR)
securities as collateral.
When
do banks resort to borrowing through the MSF?
When banks are extremely short of
funds, they are willing to pay a higher interest rate to borrow extra money
from the RBI even at a much higher rate.
How will a hike in the MSF
rate help currency volatility?
- The
rupee has slid more than 13% since May.
- While
this is partly explained by the foreign investors pulling out from Indian
equity and debt markets fearing a winding down of the US monetary stimulus
programme, there is also a speculative component that is hammering down
the rupee.
- By
making it costlier for banks to borrow, the RBI wants to discourage banks'
lendable resources from being used for taking speculative positions on the
rupee.
What is statutory liquidity
ratio (SLR)?
- Apart
from keeping a portion of deposits with the RBI as cash, banks are also
required to maintain a minimum percentage of their deposits with them at
the end of every business day, in the form of gold, cash, government bonds
or other approved securities.
- This
minimum percentage, which now stands at 23%, is called SLR.
- While
cash reserve ratio (CRR) is maintained in cash form with RBI, SLR is
maintained in liquid form with banks themselves.
What is repo rate?
It is the rate at which the RBI lends to banks. A lower repo
reduces banks' borrowing costs goading them to cut interest rates for final
home, auto and corporate borrowers.
What
is reverse repo rate?
The reverse repo is the rate at which RBI borrows from banks to
suck out liquidity.
What are policy rates?
- The
policy rate acts as the guide for final lending rates that banks charge
from borrowers. In tight liquidity situations the repo rate acts as the
policy rate. In cases of excess liquidity, when banks park money with the
RBI from their pool of lendable resources, the reverse repo rate is the
policy rate.
- A
higher reverse repo would give banks incentive to park money with the RBI,
reducing liquidity and demand. A higher reverse repo rate sucks cash from
the system to stymie demand and cool prices.
What prompted the RBI to
maintain a status quo on policy rates?
- Skyrocketing
onion and vegetable prices and costlier staples such as rice and wheat pushed
India's wholesale price index (WPI)-based inflation to 4.86% in June,
adding to a range of problems for the government battling to the steer the
country out of a web of economic mess in an election year. The latest
spike in WPI inflation, which was at a 40-month low of 4.7% in May, has
largely been driven by high food prices that grew at 9.74% in June
compared with 8.25% in May. A sub-5% WPI inflation is still well within
the RBI's comfort zone, but with high retail inflation that threatens to
reach well into double digits this month, experts reckon that the central
bank is unlikely to cut lending costs in its July 30 review meet.
- Moreover,
the sharp slide in the rupee, which has fallen nearly 13% since May, will
fuel inflation further by making most imported goods such as crude oil
costlier. Consumer price index (CPI)-based inflation — a more realistic
index because it measures shop-end prices — grew 9.87% in June from 9.31%
in the previous month, on costlier vegetables and food items.
As long as CPI inflation remains close to double digits and the balance of payment is at risk, analysts expect the RBI would have
little room to cut interest rates now.