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RBI hikes CRR, lending rates unlikely to go up
January, 30th 2010

In a widely expected measure to contain inflation, the Reserve Bank of India on Friday increased the cash reserve ratio (CRR) the proportion of total deposits which banks are supposed to park with RBI by 0.75 percentage points to 5.75%, from the current 5%.

Both RBI and banks said the move, which will take out Rs 36,000 crore from the banking system, will not result in a hike in lending rates in the near future. In its third quarter review of monetary policy, RBI said that as the banking system was awash with surplus liquidity, an increase in CRR requirements will not affect availability of funds for lending.

The main theme of the review was managing India's economic recovery, a major shift from the previous priority of managing the crisis. A hike in interest rates could have affected economic growth in 2009-10, which RBI now estimates at 7.5%.

The central bank left the key interest rate indicator, the reverse repo rate the rate at which banks can keep the surplus fund with RBI unchanged at 3.25% and repo rate at 4.75%.

On Friday, banks had parked Rs 88,590 crore surplus funds with the central bank under the liquidity adjustment facility provided by RBI. In fact, there is some apprehension that going forward India will face the problem of surplus liquidity because of inflow of foreign funds. Besides China, India is the only significant economy which is growing at around 7.5%. It has emerged as one of the most attractive investment destinations in the world.

In its review, RBI said, "India's improving growth prospects, combined with persistently high levels of global liquidity, may result in a significant increase in net inflows over the coming months."

RBI governor D Subbarao said that managing the excess liquidity likely to be created, would be a challenge. "Depending on how these are handled, there will be implications in terms of a combination of exchange rate appreciation, larger systemic liquidity and the fiscal costs of sterlization, he said.

"Today, there is so much liquidity in the system that it is distorting the interest rate curve and large corporates are able to raise funds at very low rates. I think what the RBI has done is excellent," State Bank of India chairman O P Bhatt said.

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