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RBI hikes key interest rates more than expected
July, 27th 2010

The Reserve Bank today raised its short-term lending and borrowing rates by 0.25 per cent and 0.50 per cent respectively to bring inflation to six per cent by March 2011 from double digits now, but the move would put pressure on banks interest rates.

In its monetary review, the Central Bank, however, kept its cash reserve ratio (CRR), the cash which banks are required to keep with RBI, unchanged.

The RBI raised upwards the inflation target from 5.5 per cent to 6 per cent and said that the economy will grow by 8.5 per cent, up from earlier projection of 8 per cent, this fiscal.

The increase in short-term lending rate (repo) to 5.75 per cent and short-term borrowing rate (reverse repo) to 4.5 per cent will be effective immediately.

Earlier this month, the RBI had hiked repo and reverse repo rates by 0.25 per cent as inflation remained above 10 per cent for the fifth month in succession. Prior to this, the RBI had raised thrice its key rates, since January.

Inflationary pressures have exacerbated and become generalised with demand side pressures clearly visible...given the spread and persistence of inflation, demand-side inflationary pressures need to be contained, the RBI said.

The RBIs projection of a higher inflation than the earlier estimate could partly be attributed to the governments move of raising fuel prices.

The Central Bank said there can be an up to one per cent impact on WPI-inflation owing to fuel price hike.

In June, the government raised petrol prices by Rs. 3.50 a litre while decontrolling them and hiked diesel prices by Rs. 2 a litre, LPG by Rs. 35 a cylinder and kerosene by Rs. 3 a litre.

The RBI said that the monetary policy stance would be aimed at containing inflation while it will be prepared to respond to any further build-up of inflationary pressures.

Revising upwards the GDP target for this fiscal, the RBI said that indications are that the economy is steadily reverting to its pre-crisis growth trajectory.

However, uncertainty over global recovery could have possible adverse consequences for India, the apex bank said.

If the global recovery slows down, it will affect all emerging market economies, including India, through the usual exports, financing and confidence channels, the RBI said.

A global slowdown also carries the significant risk of a potential slowdown in capital inflows, it said, adding that it may act as constraint to domestic investment.

On liquidity pressures in the system due to payment for spectrum, the RBI said though current market conditions indicate that liquidity pressures will ease, the system is likely to remain in deficit mode for now.

In another significant move, the RBI said it will now undertake mid-quarter policy reviews, on the lines of major central banks abroad, to take the surprise element out of the off-cycle actions. These reviews will be conducted at an interval of about one and a half months, after each quarterly review, the Central Bank said.

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