Crisil Report Finds Fault With Rbis Liqidity Squeeze Moves

It is imperative that the volatility be contained to enable the economy to move on a higher trajectory, it said.

Crisil indicated that industrial recovery began on a positive note during the fiscal 2001. The improving economic fundamentals and comfortable liquidity conditions acted as a cue for the Reserve Bank of India (RBI) to lower the interest rates. The rates on the General Providend Fund (GPF) and the Public Providend Fund (PPF) were cut by a 100 basis points and likewise the CRR, the bank rate and the repo rates were also reduced by 100 basis points each in April. Despite this, the pressure on the interest rate kept building up during the first quarter, the release said.

The recent volatility in the foreign exchange markets served as a trigger for the RBI to hike the interest rates with a hike in the cash reserve ratio (CRR) and the bank rate, as was the case on July 21.

Crisil believes that if these temporary measures linger on, industrial production will be adversely affected which may upset the revenue projections of the government for the current fiscal. further said the disinvestment in the public sector undertaking (PSU),lined up for later this year, may also put pressure on the fiscal deficit.

Direct intervention by the RBI by selling dollars in the market has lead to frequent spurts of tightening of the liquidity , especially since May 2000. As a result, yields across all maturities have been on the rise. Despite this building pressure, the sharp volatility in the exchange rate during May/June triggered off the new interest rate hikes. These policy changes announced by the RBI strongly suggest that "the immediate concern of the monetary authority is to contain the volatility of the currency and to insure that there is no further mismatch in supply and demand of dollar," Crisil said.

Crisil also recognises that the domestic interest rate pressure also depends on the foreign inflows. "Provided the US economy cools to the extent that there is no further compulsion for Fed Reserve to raise interest rates, foreign institutional investors' (FII) inflows would revert back to the Indian market, leading to a more stable scenario on interest rates and exchange rates here," the Crisil release pointed out.