RBI hikes repo, reverse repo by 50 bps each

Natalia George, On Tuesday 26 July 2011, 11:07 AM

The Reserve Bank of India has continued its hawkish stance and increased both the repo and the reverse repo rate by 50 basis points each. The repo rate will now be raised to 8 percent while the reverse repo rate will be increased to 7 per cent.

The rate increase is its eleventh since March 2010, making the RBI one of the most aggressive inflation fighters among central banks.

This has taken the market by surprise as most analysts expected the central bank to be more dovish and only announce a 25 basis point repo rate hike given the threat to India's industry growth due to increased interest rates.

The central bank, however, said it would take further action only after looking at the inflation trajectory.

"Considering the the overall growth and inflation scenario there is a need to persevere with the anti-inflationary stance. The cumulative impact of monetary action on demand will be reinforced," RBI Governor D Subbarao said.

Recent industrial output and manufacturing data was the worst in nine months, while sales of cars have slowed sharply and loan demand is easing, complicating the central bank's inflation-fighting task. Subbarao, however said that he has seen no evidence of a broad based slowdown in growth and that demand pressures continues to remain strong and therefore did not see the need to pause its hawkish stance.

The central bank has left its gross domestic product (GDP) expectation unchanged but has cut its credit growth projection from 19 per cent to 18 per cent.

The Governor further announced that inflation is expected to remain elevated for a few more months and that the RBI had revised its March 2012 inflation projection to 7 per cent as against it's earlier projection of 6 per cent.

He concluded by saying that the Reserve Bank would remain focused on curbing inflation and sustaining growth in the medium at the same time. "The challenge for the Government and the Reserve Bank is to ensure that demand is constrained in the short term to bring inflation down, but to encourage supply response so as to expand the potential output of the economy in the medium term," he said.

In an interview with CNBC-TV18, most bankers said that banks would not be able to sustain a a 50 basis points hike and that it was highly likely that banks would announce lending rate hikes as soon as next week.

A shocked market saw a major set back, with the Nifty sliding 60 points and the Sensex losing 180 points. bank stocks took a 2.5 per cent hit while the realty sector saw a 2 per cent fall.

The reserve bank has probably underestimated the time it takes for monetary action to take effect and should have probably have taken a wait and watch stance. The market was  clearly taken by surprise and market experts say that the indices would continue to see further downslides on  account of the rate hike added to the global crisis.

Source:
http://in.finance.yahoo.com/news/RBI-hike-repo-reverse-repo-50-yahoofinancein-1919458909.html