India’s Monetary Policy Update: Q1 2007-08

The much awaited monetary policy from RBI is out. There are largely 3 current problems in Indian economy that need immediate attention- Inflation, Surplus Liquidity and Appreciating Rupee.

Let’s see what does RBI say for each of the three issues: (The measures are in italics and my comments in normal)

  • Inflation: It has kept the policy rates unchanged in line with market expectations- Bank Rate – 6.0%, Repo rate -7.75%, Reverse repo rate – 6.0%.

    RBI still sees inflation as a concern mainly on account of rising food prices and oil prices worldwide. But as, Mon pol works with a lag, RBI could be feeling that monetary transmission is beginning to work, as inflation has been below 5 for couple of months now. Hence, has kept the interest rates where they are.
  • Surplus Liquidity: RBI views this needs to be addressed. For this, it has taken two measures:a) It has withdrawn the ceiling of Rs. 3,000 crore on daily reverse repo under the LAF w.e.f August6, 2007.  However, RBI keeps the option to revise this if need arises.

    As huge capital inflows continues to be a problem, RBI has taken this step.

    b) Cash Reserve Ratio has been increased from 6.5% to 7.0%.

  • Rupee Appreciation: I was expecting RBI to atleast raise some ideas on how can capital flows be abated and rising rupee level be controlled. But there is nothing in the report. It simply states facts that how much rupee has risen and mentions the various sops provided by Commerce Ministry to the ailing exporters. This is disappointing. It simply says:

The exchange rate policy in recent years has been guided by the broad principles of careful monitoring and management of exchange rates with flexibility, without a fixed target or a pre-announced target or a band, coupled with the ability to intervene, if and when necessary. The overall approach to the management of India’s foreign exchange reserves takes into account the changing composition of the balance of payments and endeavours to reflect the ‘liquidity risks’ associated with different types of flows and other requirements.

Plain Mumbo-Jumbo.

The other important measures taken are:

  • RBI used to do two auctions under Liquidity Adjustment Facility (basically it helps manage liquidity in the system), one in the morning (10:30 AM to 12:00 noon) and one in afternoon (3 Pm to 3:45 PM) . Now, it would only do one auction in the morning.  
  • RBI has the flexibility to conduct repo/reverse repo auctions at a fixed rate or at variable rates as circumstances warrant.

    Why variable rates? For instance, fixed repo rate is 6% and say RBI absorbs money at 5.5%. Would repo rates be 6% or 5.5%? And as usual, there is no explanation. 

As I am still reading the report, I would update this page if I find something else. Keep watching this space. 

Update: Ajay Shah also shares his thoughts.

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3 Responses to “India’s Monetary Policy Update: Q1 2007-08”

  1. sachin Says:

    can you guide me to any website that explains repo and reverse repo auctions in simple terms?

    thanks

    sachin

  2. Assorted Links « Mostly Economics Says:

    […] Ajay Shah has an excellent article on India’s monetary policy announced y’day.  I shared similar […]

  3. Amol Agrawal Says:

    I think this report should help http://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/40456.pdf

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