Learning 123’s of Monetary Policy,CRR,Repo….

Learning 123’s of Monetary Policy,CRR,Repo….

There is the big news on all the financial news papers and TV channels about the CRR hike by the RBI. Let us see what exactly do there terms (Monetary policy, Credit Policy, CRR, SLR, Repo rate, reverse repo rate) mean and how they affect the stock market and the stock investing public.

What is monetary policy?

Basically this is a policy which controls and regulates the supply of money in the Indian economy. This policy is a tool used to influence interest rates, inflation, and credit availability through changes in the supply of money available in the economy. In India it is also called the Reserve Bank of India’s ‘Credit Policy’ as the stress is primarily on directing and controlling credit.

What is Bank rate?

Bank Rate is the rate at which RBI allows finance to commercial banks. Bank Rate is a tool, which RBI uses for short-term purposes. Any revision in Bank Rate by RBI is a signal to banks to revise deposit rates as well as Prime Lending Rate. This could mean more or less interest on your deposits and also an increase or decrease in your EMI.

What is CRR?

All scheduled commercial banks are required to maintain a fortnightly minimum average daily cash reserve equivalent with RBI. This is 3% of its Net Demand and Time Liabilities (NDTL) outstanding as on the Friday of the previous week. But the apex bank is empowered to vary this ratio between 3 and 15 per cent. RBI uses CRR either to drain excess liquidity or to release funds needed for the economy from time to time. Increase in CRR means that banks have less funds available and money is sucked out of circulation.

What is SLR?

Every bank is required to maintain at the close of business every day, a minimum proportion of their Net Demand and Time Liabilities as liquid assets in the form of cash, gold and un-encumbered approved securities. The ratio of liquid assets to demand and time liabilities is known as Statutory Liquidity Ratio (SLR). Present SLR is 25%. RBI is empowered to increase this ratio up to 40%.

What are Repo rate and Reverse Repo rate?

Repo rate is the rate at which the RBI lends shot-term money to the banks. When the repo rate increases borrowing from RBI becomes more expensive.

The reverse repo rate is the rate at which banks park their short-term excess liquidity with the RBI

RBI hikes CRR by 25 bps and repo rate by 50 bps

In a move to curtail rising inflation and inflationary pressures, the Reserve Bank of India (RBI) on Tuesday tightened the liquidity in the system by raising the Cash Reserve Ratio (CRR) of banks by 25 basis points to 9 per cent and the short-term indicative rate (repo rate) by 50 basis points to 9 per cent.

The increase in CRR — the portion of deposits banks must keep aside — with effect from August 30 is expected to drain out another Rs. 9,000 crore from the banking system. Repo rate, rate at which the RBI lends money to banks, has been hiked by 50 bps.

The RBI undertook aggressive monetary tightening measures as the global pressure on inflation from primary commodities and crude prices are not expected to ease soon. The RBI had hiked the repo rate by 125 basis points and the CRR by 150 basis points since April.

RBI priorities

The RBI also revised the GDP growth projection for 2008-09 from 8.0-8.05 to around 8 per cent, barring domestic or external shocks. Pointing out that price stability and controlling inflation were the priorities of the central bank while it maintained growth momentum, RBI Governor Y.V. Reddy said, “Exaggerated bearishness is as dangerous as exaggerated bullishness. We are emphasising a lot on inflation but underplaying growth.” Dr. Reddy was addressing a press conference to announce the RBI’s first quarter review of the Annual Monetary Policy for 2008-09.

Controlling Inflation

While the policy actions would aim to bring down the “current intolerable level of inflation to a tolerable level of below 5 per cent as soon as possible and around 3 per cent over the medium term,” Dr. Reddy said that at this juncture a realistic policy endeavour would be to bring down inflation from 11-12 per cent to a level close to 7 per cent by March 31, 2009.

On domestic oil prices, the RBI Governor said, “We are not expecting any pass-through of global oil prices to domestic prices in the current financial year.”

How it affects the stock markets, investors and the common man?

These hikes are a clear signal for banks to increase their lending rates; and loans for housing, cars and personal purpose will be dearer.
Bank stocks suffer the most a lending and borrowing becomes dearer. Most rate sensitive sectors in the stock market are banking, real estate, autos. These suffer because loans become more expensive with higher EMI’s.
In other sectors the companies which are in expansion mode and need capital are going to suffer with credit availability becoming difficult .