An overwhelming majority of bankers feel that RBI will hike cash reserve ratio (CRR) requirements by 50 basis points in its monetary policy review on Friday. Cash reserve ratio requirements are prudential norms that prescribe the portion of deposits to be maintained with the central bank.

There is also a small section of bankers who are betting on a hike in the reverse-repo or repo rate. The repo rate is the rate at which RBI makes funds available to banks while the reverse-repo rate indicates the return that banks can earn by lending surplus funds to RBI.

There is pressure on the central bank to keep prices under check to ensure that the Aam Aadmi, or the common man, is not hurt. For central banks battling price rise, the main enemy is excess liquidity. Although easy availability of funds has not caused any asset bubbles, the central bank could tighten policy rates to pressurise traders and manufacturers to offload their inventory.

A poll conducted by ET over 20 bank chiefs, economists and primary dealers on the eve of the monetary policy reveals that 87% of those polled expect the central bank to increase the cash reserve ratio requirement. Only 6% among those polled expect the hike to be limited to 25 basis points while the remaining 7% expect the hike to be at least 50 basis points.

A time to tighten

Dovish in April; neutral in July; and the first phase of exit in October RBI policy stance has clearly shifted over the year; and we look for a turnaround in the same in the forthcoming monetary policy, said Deepali Bhargava, economist with ING Vysya Bank. Ms Bhargava also feels that a hike in CRR is in the offing while a repo hike may not be warranted now.

In the months following the collapse of Lehman Brothers, RBI released over Rs 4,00,000 crore of liquidity into the banking system. Since then, the demand for funds has tapered off, portfolio flows have continued but the liquidity overhang remains threatening to fuel prices further.

Senior bankers polled by ET included those from public sector banks, private sector banks, primary dealerships and foreign banks. While they are quite certain that CRR will be hiked, they are not so confident over a rise in the repo or the reverse-repo rate as they feel that the central bank wont take chances with credit growth still below the targeted 18%.

Among other public sector banks, the chairpersons of Bank of India, Central Bank, Dena Bank and Union Bank all expect RBI to hike CRR by 50 basis points. On Wednesday, while announcing the banks results SBI chairman, OP Bhatt said: I think a 50 basis point hike in the reverse repo is the farthest that RBI would go.

A hike in the cash reserve ratio would impound around Rs 40,000 crore of surplus liquidity. This would marginally increase the cost of funds for banks, as they would otherwise earn some interest on these funds. Banks have been parking close to Rs 1 lakh crore daily with RBI for the past year and analysts feel this could only fuel further inflationary expectations in the economy.

The MSS option

BNP Paribas expects that in addition to a hike in CRR, the central bank may also look at issuing market stabilisation bonds. These bonds were introduced a few years ago where the sole purpose of raising funds was to impound liquidity. Analysts feel that MSS will also be a good instrument when the capital market are readying themselves for fresh inflows in the coming months. Foreign funds poured close to $16 billion in 2009 in the Indian share market, with analysts expecting a encore in 2010.

According to the central banks website, the total outstanding balance under the MSS stood at Rs 7,737 crore as on January 8, 2010, below a self-imposed limit of Rs 2.48 lakh crore. Although the stock market indices have dipped in recent days, the benchmark 10-year bonds have stayed flat, with yields at their lowest in six weeks, indicating its expectation of no changes in policy rates. The yield on the 6.35% bond due January 2020 ended unchanged at 7.55% on Thursday.

An index measuring wholesale food prices increased 17.4% in the week to January 16 from a year earlier, following a 16.81% gain the previous week, commerce ministry data published on Thursday showed. This may lead the central bank to give out a hawkish tone on inflation, many bankers said.

Close on the heels of the food inflation numbers, the central bank on Thursday said inflation has emerged as a major concern amid strengthening consumer demand.

In India, recovery has coincided with a significant build-up of inflationary pressures, RBI said in its report on the economy. Some bankers are also expecting the central bank to announce the operationalisation of securitisation guidelines it issued last quarter. RBI could also announce plans to introduce exchange-traded currency options, announce the next step in the reform of the corporate bond market, said some market watchers said.