Highlights of the monetary policy 2011-12 Ø LKP

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Highlights of the monetary policy 2011-12

Ø      Repo Rate hiked by 50 bps from 6.75% to 7.25%

Ø      Reverse repo hiked by 50 bps from 5.75% to 6.25%

Ø      Bank rate remains unchanged  at 6%

Ø      CRR remains unchanged at 6% of NDTL

Ø      MSF  rate set at 8.25%

Ø      Saving account rate hiked from 3.5% to 4% (with an immediate effect)

Ø      M3 growth is placed at 16% for FY12. 

Ø      Aggregate deposits of SCBs are projected to grow by 17% in FY12

Ø     Non-food credit of SCBs is projected at 19% in FY12

Stance of the monetary policy

Ø      To maintain an interest rate environment that moderates inflation and anchors inflation expectations.

Ø      To foster an environment of price stability that is conducive to sustaining growth in the medium-term, coupled with financial stability.

Ø      To manage liquidity to ensure that it remains broadly in balance, with neither a large surplus neither diluting monetary transmission nor a large deficit choking off fund flows.

Interpretations

Ø       The tone of the monetary policy is hawkish and has moved from the calibrated approach to a more aggressive stance on inflation. The upsurge of global commodity prices and their pass through to domestic manufactured goods has shifted policy stance from ‘nurturing growth, while trying to contain the spill-over of supply side inflation’ to a dominant stance on inflation.

Ø     The cumulative impact of monetary actions over the past 15 months will continue to be felt over the course of 2011-12, contributing to moderation in both growth and         inflation rates.

Ø      The recent rate hikes are likely to impact bank margins negatively. Cost of funds is likely to go up by 50-100 bps for most banks over the next couple of quarters. Although bankers have indicated that significant portion of hikes are likely to get passed on to customers, we believe that the system may not be able absorb a complete pass on of costs without significant impact on demand. 

Ø      Largely banks have been able to support NIMs during Q4FY11 with base rate hikes effected in Jan and Feb 2010. However, we believe that much of the lending rate hikes have been effected and rising cost of funds will drag margins by 15-50 bps in FY12.

Ø     We believe that higher input prices and interest rates will take their toll on infra investment and corporate capex. A large part of the infra credit growth (H2FY11) was driven by sanction which were initiated  a year back. However, we expect the volatility in prices and slow down in demand to put disbursements under pressure in FY12. Although consumption demand (linked to infra spend over the past 2 quarters) is likely to sustain growth over next couple of quarters, it is not likely to gather momentum in H2FY12.

Changes in the monetary policy

Ø     The weighted average overnight call money rate will be the operating target of monetary policy.

Ø     The repo rate will be the only one independently varying policy rate.

Ø  The reverse repo rate will be pegged at a fixed 100bps below the repo rate.

Ø      RBI has instituted a new Marginal Standing Facility (MSF), effective 7th May,2011. Banks can  borrow overnight from the MSF up to 1% of their respective NDTL @ 100 bps above the repo rate.

LKP Research