Loans set to pinch more as central bank hikes interest rates (Roundup)

July 26th, 2011 - 7:20 pm ICT by IANS  

Pranab Mukherjee Mumbai, July 26 (IANS) India’s central bank Tuesday sharply hiked key rates by 50 basis points in the 11th such exercise since January 2010 to tame stubborn inflation, setting the stage for auto, housing and commercial loans to become dearer once again.

The repurchase rate, the interest the central bank levies on short-term borrowing by commercial banks, has been hiked to 8 percent from 7.5 percent and reverse repurchase rate, or interest paid on short-term lending, raised to 7 percent from 6.5 percent.

The rate hikes were effected by Reserve Bank of India (RBI) Governor Duvvuri Subbarao during the first quarterly review of the apex bank’s monetary policy for this fiscal conducted at his headquarters on Mint Road here.

While the rate hike was expected, the quantum of increase took the financial world by surprise. Yes Bank was first to react, hiking its base lending rate by 50 basis points to 10.25 percent.

Agreeing with RBI’s action, Finance Minister Pranab Mukherjee said the cental bank had sought to give a “strong signal to further moderate inflation and check inflationary expectations”.

“With this policy adjustment, we will be able to get back to a more comfortable inflation situation that takes us to the year-end inflation level of six to seven percent,” the finance minister said in a statement. The RBI governor himself pegged the year-end inflation projection at 7 percent.

“Consumer loans will become terribly expensive,” said Deepak Parekh, chairman of Housing Development Finance Corp. “Credit demand will moderate and competitiveness of companies will go down,” the veteran banker predicted.

The markets, too, did not take kindly to the policy update.

The sensitive index (Sensex) of the Bombay Stock Exchange (BSE) closed 353.07 points or 1.87 percent lower, while at National Stock Exchange, the broader S&P; CNX Nifty ended 105.45 points or 1.85 percent down. All sector-specific indices also closed lower.

“Notwithstanding signs of moderation, inflationary pressures are clearly very strong,” Subbarao told the chief executives of commercial banks after the policy update, while defending the policy action.

“Keeping in view the domestic demand-supply balance, the global trends in commodity prices and the likely demand scenario, the baseline projection for wholesale inflation for March 2012 is revised upward from 6 percent with an upside bias,” he added.

The new projection on inflation is 100 basis points above, at 7 percent by year-end.

On growth, the Reserve Bank governor said amid a slowdown in the factory output growth, the robust export performance should augur well, but the performance of monsoon so far could exert pressures on the yields of coarse grains, pulses, oilseeds and cotton.

“Against this backdrop, the baseline projection of real gross domestic product growth is retained at 8 percent, as set out in the May 3 policy statement,” said Subbarao, adding that the stance of the Rerserve Bank will be to tame inflation and maintain growth.

The rate hike was criticised by industry in particular, as it was already facing a drop in factory output growth, while analysts maintained that the country’s overall growth may also be impacted because of the sharp tightening of the monetary policy.

“This has come as a major disappointment to the industry,” said Rajiv Kumar, secretary general of the Federation of Indian Chambers of Commerce and Industry (FICCI), as did the other leading corporate lobbies.

“In the trade-off between growth and inflation, the Reserve Bank has clearly decided to sacrifice growth. It may have been more consistent on the central bank’s part to lower the growth estimate to below 8 percent rather than sticking to it,” Kumar added.

Anis Chakravarty, director with advisory firm Deloitte, Haskins and Sells agreed. “The current hike coupled with the past actions will have an impact on overall growth, the effect of which is likely to be felt during the post monsoon period,” he said.

“At a time, when all available data indicate a clear slowdown in industrial and economic output, this is a matter of great concern,” said Chandrajit Banerjee, director general of the Confederation of Indian Industry (CII).

Interest rate sensitive sectors like real estate, auto and banking will especially feel the pinch of the rate hikes in the coming months, analysts said.

“Most banks will increase rates. That will contract demand,” said Sanjeev Zarbade, vice president with financial services firm Kotak Securities. “Across sectors, the interest rate hikes will pinch profit growth.”

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