RBI hikes rate by 25 bps

RBI hikes rates by 25 bps; home, auto loan rates may go up

Rattled by a spiralling inflation, the central bank raised the benchmark short-term interest rates—repo and reverse repo—by 25 basis points.

While the RBI communiqué was issued well after market hours in India, US stocks slipped soon after the announcement as traders felt it was a signal that monetary authorities would be quick in withdrawing the post-Lehman stimulus.

Banks pay the repo rate to borrow from RBI and receive the reverse repo rate for parking surplus funds with the central bank. The repo rate is up from 4.75% to 5% while the reverse repo rate is up from 3.25% to 3.5% with immediate effect.

Banks are expected to take a call on raising the deposit and lending rates after the March 31 financial closure. According to Chanda Kochhar, CEO of India’s second-biggest lender, ICICI, the bank “will wait and see the credit offtake and systemic liquidity to assess the medium-term impact on lending and borrowing rates”. “Currently, there is ample liquidity in the market,” she said. Indian Overseas Bank chairman SA Bhat said, “I do not expect interest rates to go up in March... if at all, it may happen next month.”

Mortgage giant HDFC said unless there is an increase in the cost of funds, the institution will not increase interest rates. “In the short term, cost of funds is unlikely to change much... It’s more a signal,” said Keki Mistry, vice-chairman and managing director of HDFC.

But for RBI, “anchoring inflation expectations and containing overall inflation have become imperative”. “Headline WPI inflation on a year-on-year basis at 9.9% in February 2010 has exceeded our baseline projection of 8.5% for end-March 2010,” said RBI.

Moreover, the central bank indicated that it favoured rate hikes in small doses rather than pushing through stronger measures at a later stage when inflationary expectations deepen. But, banks and bond houses already hit by rising yields, will have to provide for higher mark to market losses as they close the financial year in a fortnight. “It was a surprise that it happened before March 31,” said Pradeep Madhav, MD of STCI Primary Dealer.

After Friday’s rate hike, the market was divided on what RBI governor Duvvuri Subbarao could do when he presents the policy on April 20. “Some are not ruling out another quarter point hike in April 20... in the next few weeks, the market will continue to bet on this. Immediately, we will see yields going up and the rupee rising 10 paise against the dollar,” said a trader. In its release, RBI said it “will continue to monitor macroeconomic conditions, particularly the price situation, and take further action as warranted”.