<div>Hope, it has been said, is like the clouds: some pass by, and others rain. That’s roughly what the mid-quarter review of monetary policy seems to have achieved. Instead of cutting the policy interest rates — as many had hoped, especially after the reform measures announced by the government of India last week, the Reserve Bank of India (RBI) cut the cash reserve ratio (CRR) — the percentage of their deposits that banks keep with the RBI in the form of cash — by a quarter of a percentage point (25 basis points, or bps).</div><div> </div><div>It was a pre-emptive move that will give banks about Rs 17,000 crore in additional loanable funds. We are in the so-called busy season, where credit demand goes up; as credit growth continues to outpace deposit growth, the increase in liquidity will help banks to meet some of that extra demand without raising interest rates beyond current levels. It is also the beginning of the festive season that is expected to last up to the end of November, where retail demand for credit could also push loan demand.</div><div> </div><div>The RBI’s reluctance to cut the policy interest rate is understandable: inflation, as measured by the wholesale price index (WPI) has remained stubbornly above 7.5 per cent for the first half of the financial year; consumer price inflation has similarly stayed above 10 per cent. The hike in diesel prices is likely to add to that inflation, at least in the short term.</div><div> </div><div>In April this year, in the annual policy announcement, RBI Governor Duvvuri Subbarao had also preemptively cut the policy interest by half a percentage point on the basis of the finance minister’s statement in the Union Budget about taking action on fiscal correction by keeping subsidies in check. As this policy review pointed out, those expectations were belied.</div><div> </div><div>Many analysts may have misread the last paragraph of the RBI’s policy statement — which was relatively short — as ‘dovish’, suggesting that as things get better in coming months, the central bank could cut rates. The RBI will probably wait for actual action on policy implementation and signs that inflation is actually softening before announcing a policy interest rate cut.</div><div> </div><div>Nothing much has changed, in macroeconomic terms; the challenges of managing the twin deficits — fiscal and current account — and keeping inflation under control still remain. Global conditions do not look too promising ether; the bond-buying programmes announced by both the European Central Bank and the US Federal Reserve Board could keep commodity prices — mainly oil prices — high, which isn’t good for India’s current account, especially when we are buying it with a weakening currency.</div><div> </div><div>That last paragraph in the mid-quarter policy review statement merely laid out the challenges much more clearly, and what needs to change before more positive policy action could be taken. It was not couched as a warning, but should probably be read as one.</div><div> </div><div>srikanth.srinivas@abp.in</div><div> </div>