RBI slashes the policy rates-how it shall affect you?

In the wake of dwindling GDP growth, RBI had no option but to slash the policy rates and it did the same.

RBI cut the Repo Rate (the rate at which RBI lends to banks) by 50 basis points to 8%.

RBI hikes policy rates

Today RBI governor declared the hike in key policy rates- Repo Rate was hiked by 25-basis point to 8.5 % from previous 8.25% and as Reverse Repo Rate lags Repo Rate by 100 basis points, Reverse Repo Rate automatically got hiked to 7.5%.

Market tanks after RBI Credit Policy

Today RBI declared its credit policy and hiked the Repo Rate and as RBI keeps a difference of 100 basis points between Repo and the Reverse Repo Rate, Reverse Repo Rate too was hiked.

Market was expecting at the most 25 basis point hike and that’s why reacted negatively. Before the announcement of the credit policy Sensex was 16 points above yesterday’s close but tanked by 231 points after it. Bank, auto and reality stocks were most negatively affected.

Repo Rate and Reverse Repo Rate both were hiked by 50 basis points to 8% and 7% respectively.

CRR was left untouched at 6%. RBI governor supported this step attributing it as a must measure for long term economy growth.

Since March 10, it is the 11^th consecutive rate hike. RBI governor Mr.  D Subbarao considered inflation to be a major economic concern.

Inflation in India was not getting tamed due to higher commodity prices especially crude. Despite concerns about US economy and European debt crisis, crude was not falling and any slightest sign of recovery abroad could cause speculation in international crude prices.

Domestic inflation was increasing due to factors like higher MSP (Minimum Support Price) for food commodities and higher crude prices despite US releasing a fraction of its SPR (Strategic Petroleum Reserve).

RBI’s step shall make loans costlier and those who are availing loans at floating rates shall have to either pay higher EMIs or shall have to seek higher loan tenure.

RBI expects inflation to be around 6% around March 12.

Now all eyes sets on incoming monsoon, good monsoon shall result in subsiding food commodity prices which translates significantly in the inflation.

Impact of RBI credit policy

Today RBI raised key policy rates by 25 basis points, thus Repo Rate and Reverse Repo Rate becoming 7.5 and 6.5 percent respectively.

Inflation in the month of May was, a tad above 9%, which was much higher than RBI’s comfort level of 5-6%.

This move was necessary to curb the rising inflation and specially rising food item prices. RBI was not comfortable with the quantity of loans being disbursed by banks these days.

Unfortunately, RBI has no other option left but the curbing of demand by hiking policy to tame the rising inflation.

Interestingly, rising food prices have more to do with supply constraints which is beyond the jurisdiction of the RBI and more to do with the government’s policies.

Banks are supposed to increase at least short term lending rates, as their cost of funds shall rise due to hike in repo rate.

Market is expecting a further 25 basis point of policy rates hike in July. These rates shall definitely have an impact on India’s GDP growth rate.FII have been significant seller in the last 9 days, but money outflow from market was nominal, thanks to DII buying.

All hopes are now on good monsoon, which shall ensure the money from farm sector into the economy. Good monsoon is generally followed by increased buying in automobiles (both commercial and non commercial) and consumer goods.

This rise in policy rates was well anticipated by market so no panic reaction took place. Real estate shall be the most battered sector by this move followed by capital goods and consumer durable sector.

Buyers of Real Estate have a tendency of postponing their buying plans till interest rates moderate.

Hike in policy rates makes the capital expensive which makes CAPEX (Capacity Expansion) a difficult task and CAPEX is commonly deferred.

Not only India but china is also taking similar moves to curb the inflation.RBI has made it clear that it shall maintain its anti-inflationary stance.

Impact of RBIs Credit Policy

Both the Indian major Indices Sensex and Nifty were down by 463 and 136 points respectively followed by RBIs annual credit policy . rate sensative stocks led the decline onn fears of rising interest rates.

fears that Rising interest rates shll bring banks  credit growth down and shall shrink Net interest margin

Along with this RBI hiked the interest rate due on saving accounts by 50 basis points to 4% This shall bring more funds in banks saving account.despite this investors are advised not to keep more than necessary funds in saving account as it shall earn negative returns after adjusting the inflation.

hike in saving rate shall meke banks lending rates dearer as 36% of Indian population have saving accounts.

Impact of RBIs Credit Policy on Capital Market

Both the Indian major indices Sensex and Nifty were down by 463 and 136 points respectively, followed by RBIs annual credit policy. Rate sensitive stocks led the decline on fears of rising interest rates which could reduce the profitability.

BSE Auto index was the top looser which dropped by 3.7 percent.

Rising interests affect auto sector in two ways- first it increases the cost of production which results in reduced profitability and customers seeking auto loan to own the vehicle gets discouraged due to higher EMIs.

BSE Bankex fell by 3.1 percent.

Rising interest rates reduces banks credit growth along with shrinking NIM (Net interest margin).

Along with this RBI hiked the interest rate on saving accounts by 50 basis points to 4%. This shall bring more funds in banks saving account.

Despite this, investors are advised not to keep more than necessary funds in saving account as it shall earn negative returns after adjusting the inflation. Considering 6 percent annual inflation, yield on saving account comes to -2 percent.

Hike in saving rate shall make banks lending rates dearer, as 36% of Indian population have saving accounts. Many banks have made it clear that they shall pass the higher interest burden on customers.

Third sectoral index which took the hit was BSE Reality index dipped  2.9 percent.

Apart from raising construction costs higher real estate sales also gets hampered.

Home loan buyers defer their plan to purchase the property due to higher EMIs (or extended loan tenure) and continue with the present rental property.

IT index was the least affected by the credit policy as IT companies have very little debt in comparison with other sector companies.

First quarter review credit policy is due on July 26, 2011, where further monetary tightening could be done in order to curb the inflation.

RBI Credit Policy 2011

Today RBI Governor D Subbarao announced the annual Credit Policy. RBI hiked the Repo Rate(the rate at which RBI lends money to banks) and the Reverse Repo Rate(The rate at which banks deposit money with the RBI) by 50 basis points to7.25% and 6.25% respectively.

These measures were taken with a view to curb the burgeoning inflation.

CRR (Cash Reserve Ratio-The proportion of a bank’s deposits which is mandatorily needs to be parked with the Reserve Bank) was untouched at 6%.

Economic growth projection was lowered to 8% for this fiscal year.

The only announcement which shall rejoice a common man to a little extent was raising the saving bank interest rate to 4%, which earlier was 3.5%.

Hike in policy rates was not at all un-expectable as inflation rate was hovering at 9% level in March and this measure is expected to bring the inflation down by easing the demand pressure.

RBIs move shall make credit dearer and as banks shall raise the interest rates for the debtors.

Dearer credit is detrimental especially for infrastructure, capital goods and heavy engineering companies, which require money for capacity expansion. Least affected companies shall be technology companies with zero or little debt.

Banks too shall have a negative impact as their NIM (Net Interest Margin-The difference between interest income and the interest expense) shall be hit badly.

If banks shall hike their lending rates then their credit growth gets hampered, apart from the fact that banks may have to raise the deposit rates.

This was a necessary step by RBI, as inflation was sure to rise further after the forthcoming hike in diesel prices, which seems inevitable due to burgeoning crude under-recovery.


Common person who has taken a bank loan at floating rate shall have to pay higher EMIs (Equated Monthly Installments) or shall have extended loan tenure.