RBI announces Further Monetary Stimulus

Since the release of the Reserve Bank's Third Quarter Review on January 27, 2009, the global financial and economic conditions have further deteriorated as revealed by the latest available information. The US real GDP contracted sharply at an annualised rate of 6.2 per cent in the fourth quarter of 2008 and the unemployment rate in the US has moved up to 7.6 per cent. The real GDP in the euro area also declined by 1.5 per cent in the fourth quarter of 2008. Reflecting deteriorating global demand, Japanese exports fell by 45.7 per cent (y-o-y) in January 2009. The Japanese economy also contracted sharply by 3.3 per cent in the fourth quarter of 2008. The fourth quarter real GDP numbers of several advanced economies have turned out to be worse than expected. The uncertainty, therefore, on global recovery has increased.

As a response, the governments all over the world continue to unveil expansionary fiscal policies. Central banks have also taken several measures to stimulate demand and moderate the impact of the global downturn and credit crunch on their economies. The US Fed and the Bank of Japan have increased quantitative and credit easing measures. The UK further reduced its policy rate by 50 basis points to 1.0 per cent. Among emerging market economies (EMEs), Korea, Indonesia, Thailand, Chile and Mexico reduced their policy rates.

India’s financial sector continues to be resilient in the face of global financial turmoil. Our financial markets continue to function in an orderly manner. India’s growth trajectory has, however, been impacted both by the financial crisis and the follow-on of global economic downturn. This impact has turned out to be deeper and wider than anticipated earlier. Concurrently, because of global developments coupled with supply and demand management measures at home, WPI inflation is on the decline along the expectations of the Third Quarter Review.

Reflecting these developments, the aim of various measures initiated by the Reserve Bank since mid-September 2008 has been to augment domestic and forex liquidity and to ensure that credit continues to flow to productive sectors of the economy. Notably, since mid-September 2008, the Reserve Bank has reduced the repo rate under the liquidity adjustment facility (LAF) from 9.0 per cent to 5.5 per cent, reduced the reverse repo rate under the LAF from 6.0 per cent to 4.0 per cent, the cash reserve ratio (CRR) from 9.0 per cent to 5.0 per cent of net demand and time liabilities (NDTL) and the statutory liquidity ratio (SLR) from 25.0 per cent to 24.0 per cent of NDTL.

The cumulative amount of actual or potential primary liquidity made available to the financial system through various measures initiated by the Reserve Bank is over Rs. 3,88,000 crore. Besides, the reduction in SLR by one percentage point of NDTL has made available liquid funds of the order of Rs.40,000 crore for the purpose of credit expansion. This sizeable easing has ensured a comfortable liquidity position. The overnight money market rate has remained near or below the lower bound of the LAF corridor since November 3, 2008.

Consequent to the announcement of fiscal stimulus packages, the market borrowing programme of the Central Government for 2008-09 was raised to Rs.3,42,769 crore (gross) and Rs.2,66,539 crore (net) as against the budgeted amount of Rs.1,76,453 crore (gross) and Rs.99,000 crore (net). Against this enhanced borrowing programme, market borrowing of the Central Government has been Rs.2,66,276 crore (gross) and Rs.1,92,315 crore (net) up to March 3, 2009. In terms of the amendment to the Memorandum of Understanding on Market Stabilisation Scheme (MSS) on February 26, 2009, an amount of Rs. 45,000 crore will be transferred in installments from the MSS cash account to the normal cash account of the Government of India by March 31, 2009. An equivalent amount of government securities issued under the MSS would now form part of the normal market borrowing of the Government of India. This arrangement should provide comfort to the market. Furthermore, the Reserve Bank has also conducted purchase of government securities under its open market operations (OMO). Such operations will be conducted as warranted by evolving monetary and financial market conditions.

The yield on the 10-year benchmark government securities, which hardened from 5.87 per cent on January 23, 2009 to 6.43 per cent on January 30, 2009, has since softened to 6.04 per cent on March 3, 2009. Taking the signal from the reductions in the repo and reverse repo rates in recent months, all public sector banks and several private sector and foreign banks have reduced their benchmark prime lending rates (BPLRs). Since the announcement of the Third Quarter Review, eleven banks have cut their BPLRs ranging from 25 basis points to 125 basis points. Several banks have also cut their deposit interest rates.

The Reserve Bank has been constantly monitoring global developments along with the domestic economic situation. On the positive side, inflationary pressures have eased significantly. Inflation as measured by year-on-year variations in the wholesale price index (WPI) has declined to 3.36 per cent as on February 14, 2009, down by about three-fourths from the high of 12.91 per cent as on August 2, 2008. However, consumer price inflation, as reflected in various consumer price indices, is in the range of 9.85-11.62 per cent as of December 2008-January 2009, has yet to show moderation. Consumer price inflation has remained at elevated level due to increase in primary articles prices. With WPI inflation having moderated significantly, consumer price inflation may also be expected to decline, though with a lag.

At the same time, there is evidence of further slowing down of economic activity. Exports registered negative growth for the four recent consecutive months, October 2008-January 2009. Overall exports growth during 2008-09 (April-January) at 13.2 per cent was significantly lower than 24.2 per cent during the same period of the last year. The index of industrial production (IIP) registered a negative growth of 2.0 per cent during December 2008, with the manufacturing sector returning a negative growth of 2.5 per cent. IIP growth during April-December 2008 at 3.2 per cent was about one-third of 9.0 per cent during the corresponding period of the previous year due to slowdown in all the major sectors. Real GDP growth in the third quarter of 2008-09 (September-December 2008) has been placed at 5.3 per cent by the Central Statistical Organisation (CSO). The services sector, which has been the main engine of growth during the last several years, has also been slowing down. Business confidence has been dented significantly and investment demand has decelerated.

Non-food bank credit growth reached a peak of 29.4 per cent (Rs.5,82,344 crore) on a year-on-year basis as on October 10, 2008 as compared with 23.3 per cent (Rs. 3,74,054 crore) as on October 12, 2007. Subsequently, year-on-year non-food bank credit growth decelerated to 24.3 per cent as on December 19, 2008, as credit expansion during the period between October 10, 2008 and December 19, 2008 at Rs. 30,889 crore was much lower as compared with Rs. 1,05,774 crore during the corresponding period of the previous year. According to the latest data, non-food bank credit has decelerated further to 19.7 per cent (y-o-y) as on February 13, 2009 as compared with 22.7 per cent as on February 15, 2008 as credit expansion during the period between December 19, 2008 and February 13, 2009 at Rs. 8,091 crore was sharply lower than that of Rs. 86,978 crore in the corresponding period of the last year. At this level, non-food bank credit expansion remains below the indicative projection of 24.0 per cent in the Third Quarter Review of the Monetary Policy. The total flow of resources to the commercial sector from banks and non-banks during 2008-09 so far (up to February 13, 2009) at Rs.4,98,136 crore was lower than Rs.6,08,351 crore during the corresponding period of the last year.

Even as some public sector and private sector banks have cut lending rates in response to the Reserve Bank’s monetary policy stance, concerns over rising credit risk together with the slowing of economic activity appear to have moderated credit growth. The Reserve Bank continues to urge banks to monitor their loan portfolio and take early action, to prevent asset impairment down the road and safeguard the gains of the last several years in improving asset quality. At the same time, banks should price risk appropriately and ensure that creditworthy enterprises continue to get funding.

On a review of the current global and domestic macroeconomic situation, the Reserve Bank has decided to take the following further measures:


Repo Rate


• To reduce the repo rate under the liquidity adjustment facility (LAF) by 50 basis points from 5.5 per cent to 5.0 per cent with immediate effect.



Reverse Repo Rate

• To reduce the reverse repo rate under the LAF by 50 basis points from 4.0 per cent to 3.5 per cent with immediate effect.


It is expected that the reduction in the policy interest rates will further encourage banks to provide credit for productive purposes at viable interest rates. The Reserve Bank on its part would continue to maintain ample liquidity in the system.