Reserve Bank of India Governor Repo Rate Hike Disappoints India Inc

IndusView, Friday 20 September 2013 (London): India’s central bank Governor Raghuram Rajan today raised the benchmark interest rate by a quarter point to 7.5%, the first increase since 2011.

The move came as a surprise to most economists, who were widely expecting the Reserve Bank of India (RBI) to leave the rate unchanged. The cash reserve ratio was left unchanged.

Mr. Rajan, a 50-year-old former International Monetary Fund chief economist, is determined to build the bank’s inflation-fighting credentials, with the bump in borrowing costs coming amid the weakest economic growth since 2009. Rajan acted even after the Federal Reserve’s decision two days ago to maintain U.S. monetary stimulus eased pressure on the rupee, which has tumbled since May.

“ Given that growth in the economy is at a low point, business confidence is weak and the investment cycle has come to a grinding halt, I expected the new RBI governor to initiate measures that would enthuse the market participants, boost investor sentiment and bring confidence back in the economy” said Rangar. “A repo rate cut was needed to facilitate industrial production process and to gain in the international markets by enhancing exports scenario.”

To ease liquidity, the marginal standing facility rate, at which banks borrow from the RBI, was cut to 9.5% from 10.25% and the minimum daily maintenance of the cash reserve ratio was lowered to 95%.

The RBI's decision surprised the stock markets and the benchmark S&P BSE Sensex ended 383 points lower.

India Inc expressed its disappointment, as a rate cut by the bank would have helped ameliorate sentiments as businesses are struggling under a tight liquidity crunch due to high cost of capital.

“The government needed to be more proactive and just showed that fighting inflation is its core priority,” said Bundeep Singh Rangar, Chairman of London-based advisory firm IndusView. “So far, all the actions taken have been to contain a crisis and not to prevent it”.

International investors have withdrawn nearly $12 billion in shares and debt from India's markets since the beginning of June.

India's economic growth rate slipped to a decade low of 5% in 2012-2013 on account of poor performance of farm, manufacturing and mining sectors. It is projected to rise to 5.7% in the 2013 fiscal year and firm to 6.5% and 6.7% in 2014 and 2015, respectively.

Policymakers have consistently struggled to come up with steps that can convince markets they can stabilize the rupee and attract funds into the country despite extraordinary measures last month by the central bank to drain liquidity and action to curb gold imports and cut India's huge oil import bill.