Published: Thu, June 07, 2018
Markets | By Noel Gibbs

India's central bank hikes interest rates

India's central bank hikes interest rates

The RBI governor said one of the reasons why the central bank had put the policy rate on hold for such a long time was the nascent recovery in the economy.

Mumbai: The cost of home, vehicle and personal loans is expected to rise after the Reserve Bank of India (RBI) surprised the Street by raising its policy interest rate - the repo - by 25 basis points to 6.25 per cent to combat inflationary pressures that have started to bubble because of higher global crude oil prices.

A majority of the bankers were expecting the RBI to be more hawkish than the last policy and change their neutral stance.

Governor Urjit Patel recently called on the Federal Reserve to slow the pace at which it plans to shrink its balance sheet to help emerging economies cope with the market turmoil.

"Based on the past narrative of RBI, we did not anticipate the repo rate hike". The rupee has also come under pressure with the USA dollar gaining against most emerging market currencies.

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The market had priced in a rate hike and RBI was behind the curve.

Markets welcomed the RBI's neutral stance with the 30-share BSE Sensex surging nearly 276 points at the close of trading.

Following the rate decision, India's 10-year benchmark bond yields rose to 7.93 percent - the highest levels since May 17 - from 7.83 percent before the policy statement.

Why did this happen? Patel saw no contradiction between today's rate hike and its neutral stand.

For inflation, 50% of the bankers expected the RBI to raise the CPI forecast for the current financial year. So far, RBI has done just about little over Rs10,000 crore worth OMOs.

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"The RBI has more direct tools if it really wants the rupee to move in a particular direction".

"To some extent the interest rate hike will impact the industry, combined with the high fuel rates, there will be a little slowdown in the take-off", John K Paul, president, Federations of Automobile Dealers Associations (FADA) told ETAuto. Like last fiscal year, for the June quarter too, RBI is allowing banks to spread the loss in bond value over four quarters but that's hardly any incentive for the banks to come to the market. "The rise in currency circulation has been above trend". Even if we presume that the worst for the local currency is over and RBI may not have to sell dollops of dollars (and, of course, it can be active in the forward market), the currency leakage will definitely tighten liquidity in the second half.

"Actually, it is not conflicting at all".

Fiscal year 2019 GDP growth forecast retained at 7.4%. This is good news. India, too, has seen foreign portfolio investors pulling out $4.4 billion in the first five months of this year, leading to the weakening of the rupee which is now one of the worst performing currencies - having fallen over 6 per cent against the U.S. dollar this year. Growth is lifting, but in an environment of rising crude oil prices, a weakening rupee, and prospects of higher food inflation should the government successfully implement its policy to raise minimum support prices (MSP) and guarantee it to farmers.

Tamal Bandyopadhyay, consulting editor at Mint, is adviser to Bandhan Bank. More than that, this phenomenon is reflecting the pain that the Indian banking system is undergoing now.

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