CRR more effective policy tool: Gokarn

The Reserve Bank of India (RBI) today said the cash reserve ratio (CRR) as a policy tool was more effective for transmission of monetary policy than policy rates, and it would continue to use the former as a tool, in small steps and in a non-disruptive manner.

“If pricing is not going to achieve what you want, then why deny yourself the need of using quantity instruments, if (the) need arises? That's really the pragmatism with which we are looking at CRR now and, I think, it will continue to be a tool that we will use," Subir Gokarn, deputy governor of RBI, said during an interaction with analysts.

The central bank on Tuesday raised key interest rates and CRR by 25 basis points each and said further rises were likely, as it moves to return the monetary policy towards pre-crisis settings and battles near double-digit inflation.

Gokarn said a single instrument was not adequate, as there were issues of transmission, time lag and uncertainty. The price mechanism on which rates implied was heavily dependent on the transmission mechanism, which was not as efficient as required.

Policy rate moves in India can take as long as a year to result in bank rate changes, while increases in CRR immediately sucks out liquidity from the system.

RBI has ruled out using the statutory liquidity ratio (SLR) as a monetary policy tool, as it thinks any increase in this measure is retrogressive because of it being a safety pool of money and not a policy instrument. SLR is the proportion of deposits banks need to hold in government securities, and currently stands at 25 per cent.

The deputy governor also said RBI would have to closely watch monsoon this year, which might play a key role in tackling inflation and influencing future RBI policy actions. RBI projects wholesale price index at 5 per cent by next March.

Southwest monsoon typically hits the south coast by the first week of June and covers the entire country by July. The rains start withdrawing by the end of September.

During his interaction with analysts, RBI Governor D Subbarao said the central bank was aware of huge capital flows and would have to intervene at the appropriate time with appropriate measures.

He also said central bank would try to avoid open market operations (OMOs) as far as possible. “OMO will be the last option and I do not foresee any contingency on OMO at this stage,” he said.

OMO is a part of RBI’s management of liquidity of the system. Last year, RBI had resorted to OMOs frequently to ensure availability of resources in the system to support the government borrowing programme.