RBI maintains status quo on rates
Following its conservative approach and mounting pressure of inflationary concerns, the RBI maintained its status quo on policy rates leaving report, reverse repo and bank rates unchanged at 7.75%, 7% and 6% respectively at the third quarter review of annual monetary policy. The CRR has also been kept steady at 7.5%. The RBI has again reinforced its thrust on liquidity management and price stability in its monetary
policy. The overhang of liquidity as reflected in the sum of LAF, MSS and the Central government's cash balances increased from Rs 85,770 crore at end-March 2007 to Rs 258,187 crore on January 17, 2008, before it declined to Rs 232,809 crore on January 24, 2008. Non-food bank credit growth has moderated to 22.2% from 31% a year earlier and deposits growing at a higher rate of 25.2% against 22.9% last year. GDP growth estimate is maintained at 8.5% for FY07-08 and with such growth rate inflation at 4 – 4.5% will be manageable as per the central bank's policy statements. However, the appreciating rupee due to widening gap between interest rates along with money supply growth at 22.4% (last year 20.8%) continues to be a concern as it is much ahead of the RBI's targeted zone of 17 – 17.5% levels. Mr. Reddy has clearly articulated that though global uncertainties may have an impact on domestic economy, the monetary policy will continue to first emphasise on factors in domestic economy of inflation, high money supply and price stability while taking care of global matters to the extent affecting India. The banker said that while underlying fundamentals of the economy remained strong and resilient and the outlook was positive, there were external risks to growth from the turmoil in global financial markets. The governor stated that though financial markets particularly stock markets were volatile, money markets and bond/ treasury market remained less volatile. Not cutting rates and postponing the demand till supply side constraints are over, is more preferable for the economy to curb inflationary concerns.
Takeaways for banking sector
It has been seen that balance sheets of banks have excess liquidity and the central bank is ready to assist banks going forward when needs arise. Also, SLR positions of banks have been rising from 28.6% to 29.1% indicating expectations of rate cut and hence building up of treasury books. We expect trading gains to rise in banking profits in the coming year. Banks are required to emphasise on credit quality as well as credit delivery, in particular, for employment-intensive sectors, while pursuing financial inclusion too. There is no moral requirement for banks to cut rates but with excess funds in hand, we may see both lending and deposit rates coming down soon from banks post the busy season. With rate cuts ahead, credit growth should takeoff.
Banks are required to review large foreign currency exposures and to put in place a system for monitoring such unhedged exposures on a regular basis so as to minimise risks of instability in the financial system under the current highly uncertain conditions. We expect rate cuts to come from April 2008 onwards unless few extremely uncertain global factors warrant RBI to take prompt action and do pre-mature rate cuts. We remain bullish on the banking sector as a whole due to strong domestic economic growth, relatively better asset quality and performance of Indian banks and expected cutting of rates going forward. PSU banks are trading still very cheap and remain attractive. Our top picks are IOB, SBI, OBC and IDFC from our coverage banking universe.
Source- ICICI
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