Amid tackling high costs of food and vegetables, the common man now also has to shell out more money towards the payment of EMI on home, auto and other loans. In a surprise move, Raghuram Rajan, the new Governor of the Reserve Bank of India (RBI), on Friday raised the repo rate by 0.25 per cent or 25 basis points (bps) to 7.5 per cent and bank experts feel it might make EMIs on loans costlier. This was the first time after almost two years that the RBI has raised the short term lending rates.
RBI's decision took the industry completely off guard. Within minutes after the central bank announced the hike in short term lending rates, State Bank of India's Chairman Pratip Chaudhuri said, “Now the busy season has started so there is a huge credit demand and banks are scrambling for deposits. Deposit rate, I think, will go up and accordingly to that lending rates can also go up.” SBI on just a day before on Thursday had increased its base rate on loans to 9.8 per cent.
The RBI's unexpected move affected investors sentiments also as Sensex slumped the most in almost three weeks and closed down 383 points, while rupee fell 46 paise to close at 62.23 against the dollar in line with a sharp decline in local stocks. In his maiden policy, Raghuram Rajan did the unexpected by raising the repo rate on which banks borrow money from the central bank for a short term by 0.25 per cent to keep inflation under check. This has not only threw the Indian stock markets tumbling down but also struck fear of paying higher amounts of loan EMIs in the hearts of public.
Contrary to the expectations of the industry and experts, Rajan opted for a hawkish monetary stance instead of shifting the focus to either growth promotion by lowering interest rates or increasing liquidity in the already dried up financial sector of the country. The last time RBI had raised the repo rate was back in October 2011, nearly 23 months back. Along with the repo rate, reverse repo rate would automatically increase by 0.25 per cent to 6.5 per cent. Reverse repo rate is the rate at which RBI borrows money from banks.
Apart from that, the RBI also announced that no change was being done to the cash reserve ration (CRR) which is kept constant at 4 per cent. But the central bank did lower the minimum daily liquidity maintenance CRR to 95 per cent from 99 per cent. While on the other hand, the RBI Governor did announce a slight ease in liquidity by reducing the marginal standing facility (MSF) rate by 75 bps from 10.25 per cent to 9.5 per cent. MSF is another way through which banks could borrow money from the RBI in desperate times. Under its liquidity tightening measures, RBI had earlier increased the MSF rate.
Raghuram Rajan expressed concerns over rising inflation which has dented household financial savings and said in the mid-quarter policy review statement, “Recognising that inflationary pressures are mounting and determined to establish a nominal anchor which will allow us to preserve the internal value of the rupee, we have raised the repo rate by 25 basis points.”
The statement further added that due to the various measures taken by the Government and the central bank, everything is being done to reduce the country's current account deficit (CAD). “Consequently, growth is trailing below potential and the output gap is widening. Some pick-up is expected on account of the brightening prospects for agriculture due to kharif output and the upturn in exports,” it said.