The Telegraph
Since 1st March, 1999
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CRR hike on agenda to tame inflation

New Delhi, Feb. 5: A fresh round of increase in the cash reserve ratio (CRR) seems to be on the way.

The Reserve Bank of India is believed to have indicated to the government that the move is necessary to reign in the inflationary spiral, which has been fuelled by high commodity prices and expansion of credit.

Top North Block officials said the RBI was inclined towards raising the CRR to 6 per cent from 5.5 per cent.

The last time Reserve Bank raised the CRR was in December last year when it winched up the key rate from 5 per cent to 5.5 per cent in two stages.

The first round of increase took effect on December 23 last year and the next round was on January 6 this year. The CRR hike was aimed at draining out close to Rs 13,500 crore from the banking system.

CRR is that portion of banks’ deposits, which must be maintained with the RBI. Any increase in CRR wrings out excess liquidity within the financial system that could have otherwise stoked inflation.

During the latest review of monetary policy on January 31, it was widely expected that the country’s central bank would tweak CRR. But it instead raised the repo rate — the rate at which it lent money to banks — by a quarter percentage point.

This, however, failed to arrest either the inflation rate, which has since shot up beyond 6 per cent, or money supply, which currently is at over 21 per cent compared with 16 per cent in the middle of last year and 20 per cent in December.

“The rate hike is still being mulled and may not happen if other steps we have taken to contain inflation start paying dividend,” officials said.

Though strategies have been put in place by the government to raise the supply of essential items such as food, cement and steel through cheaper imports, they have not been sufficient to check the inflationary trend.

There are grave concerns over the rapid rise in bank credit, which is growing at an unprecedented 30 per cent. This is increasing the money supply and giving an impetus to the price rise. This is in stark contrast to earlier instances of a rise in money supply, which was fuelled by deposits from the public and net foreign inflows.

The government and RBI feel bank credit is being partially channelled into speculative trading and to feed the consumerist boom rather than getting invested in productive resources.

The option of marginally restricting money supply to check the current round of prices is, therefore, gaining currency among the policymakers.

Finance ministry economists say the price trend is making the government less responsive to a policy of easy money supply, enabling greater credit to industry for higher growth, and veer towards the approach of the RBI.

Both the government and RBI had said inflation up to 5 per cent is acceptable. Rates higher than 5 per cent will invite reprisals to cool down prices. The RBI last year had announced several small rate hikes to curb the money in circulation.

Traditional economics say high rates of interest clamp down on loans which reduce the availability of money and put a leash on prices.

However, with the economy growing at 9 per cent, the hikes in interest rate have a temporary control over lending rates.

The government has also been swayed by reports of its own think tank, the Institute of Economic Growth, which specifically said, “Inflationary expectations still persist in the economy due to demand side factors backed by high growth in money supply.”

The institute also feels “future inflation depends on two factors: the future money policy stance of RBI and the performance of the kharif crop.”

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