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Budget gives rate flexibility, says RBI's Reddy

BUDGET 2001

Reserve Bank of India (RBI) Deputy Governor Y V Reddy said on Thursday the reform-focused federal budget would lead to a more flexible interest rate regime, but he would not commit on another cut in the key bank rate.

Reddy said the federal budget's recognition of rigidities in the fixed administered interest rates was significant and would help in formulating the monetary policy.

"The central bank will always look at the context and weigh the issues of price stability and credit availability, and the use of the bank rate as an instrument," Reddy said when asked about the possibility of a second bank rate cut.

He said the bank rate had been reduced from 12 per cent to 7.5 per cent in the past four years and rate cuts need not coincide with the budget announcement.

Markets have been expecting the central bank will cut the trend-setting bank rate, following its half-point cut on February 16, after the federal budget for 2001-02 announced a 100-150 basis points cut in the administered rates on small savings.

High tax-free returns on these instruments, ranging from provident funds to post office deposits, have been cited as deterrents to lower lending rates for Indian companies.

Finance Minister Yashwant Sinha's budget, unveiled on Wednesday, was cheered by markets for its growth-orientation and steps to curtail fiscal deficit to 4.7 per cent of GDP in 2001-02.

Sinha announced a lower net government borrowing programme, proposed to raise foreign portfolio holding limits in Indian companies to 49 from 40 per cent, and eased rules for local firms to use funds raised overseas.

Reddy said the budget projections were realistic and lauded the progress towards capital account convertibility.

He said the targeted 4.7 per cent fiscal deficit was high but "it is better to be realistic and move steadily rather than aim for rapid reduction".

He said the government's targeted net borrowings of Rs 773.53 billion ($16.63 billion) next year might not be easy to raise but could be less complicated operationally.

Reacting to a comment in the government's recent economic survey on implicit floors in Indian interest rates that kept overnight rates too high, Reddy acknowledged that the central bank's refinance rate was one of these floors.

"We are moving steadily with the liquidity adjustment facility (LAF). As we move into the second and third phases, we should be able to introduce a lot more flexibility."

The central bank last year introduced the LAF, its system of injecting or withdrawing funds through auction-based repos.

US SLOWDOWN NOT A CONCERN

Asked whether the slowdown in the United States had implications for India, Reddy said it was possible for the country to achieve respectable growth despite the adverse global environment.

"While the US economy has some influence on the prospects for growth, the structure of the Indian economy and the extent to which it is exposed to the US economy is such that it should be possible to maintain somewhat respectable growth despite adverse world economic conditions," he said.

Reddy is also confident the current account deficit would be within two percent of GDP, although he said the budget's impact on flows and the trade account would have to be monitored.

The central banker said it was of no consequence that international rating agencies retained India's below investment grade ratings even after the upbeat budget.

Late on Wednesday, international ratings agencies Moody's Investor Services and Standard and Poor's said they were positive about the budget but kept ratings and outlook unchanged.

"In reality, if you see the spreads at which our corporates have raised funds abroad, that is far more positive response than what the formal credit rating position is," Reddy said.

Budget 2001
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