Is a further hike in interest rates by the RBI required to keep inflation in check?

The majority concurs that the Reserve Bank of India should increase rates.  The central bank raised interest rates six times in 2010 to help tame inflation. But analysts are divided over whether further rate increases will help in combating inflation. The problem now is not demand-pull inflation. Food prices, which are stoking inflationary expectations in the economy, are being driven by supply bottlenecks. An increase in key rates will do little to check food inflation. Further rate increases will only take a toll on India's growth story just when the economy is recovering from the slowdown. The growing interest rate differential between India and the US will also attract a torrent of capital, putting pressure on the rupee and hurting the interests of exporters.

RBI may go for further monetary tightening measures: PMEAC

The Reserve Bank may take further monetary tightening measures to tame inflation which stood at 8.23 per cent in January, the Prime Minister’s Economic Advisory Council said today. “RBI will have to take a view looking at level of inflation. It is still at an uncomfortably high level. Some action, continued action, by the RBI (to tighten monetary policy) may be required,” PMEAC chairman C Rangarajan said. His remarks came even as inflation , though down marginally from December, continued to be above 8 per cent, a level where it has stood at since January 2010. The RBI has already hiked its short-term lending and borrowing rates by 25 basis points at its third quarterly review last month to tame inflationary pressure.  The apex bank has also termed inflation control as its topmost priority.  Asked about the fall in inflation numbers in January, Dr. Rangarajan said: “In some ways, it was expected. We can see inflation falling to 7 per cent by March.”  At last month’s review, the RBI had revised its inflation estimate to 7 per cent by March-end, from the earlier 5.5 per cent.  Inflation declined marginally to 8.23 per cent in January from 8.43 per cent in the previous month, as prices of certain commodities like wheat, pulses and sugar eased, although essential items like onions and other vegetables continued to remain firm. Besides, food items, many experts have also voiced concern over global crude prices which have crossed a 28-month high at $ 102 per barrel on account of political instability in the Middle-East, specially Egypt.

AP insists it won’t repeal law on MFIs

Andhra Pradesh insists that it won’t change a stringent new law that has brought the activities of microfinance institutions (MFIs) to a virtual halt in the state that accounts for one-fourth of the Rs.20,000 crore industry.  This runs counter to the conclusion of a panel set up by the Reserve Bank of India (RBI) that the state law “will not survive” if the recommendations it has made are accepted. “That does not change our stand,” Reddy Subramaniam, principal secretary of the Andhra Pradesh government, said in a phone interview. “We are fully aware of the situation.” He was asked whether the panel recommendations covering contentious issues such as high interest rates and over-lending would suffice to replace the state Act. RBI is currently in the process of studying the proposals made by the Y.H. Malegam panel on MFIs. Top central bank executives, including Deputy Governor K.C. Chakrabarty, are likely to meet Andhra Pradesh government officials and senior bureaucrats of some other states on 22 February to discuss the effects of dual regulation, according to two persons familiar with the development. Subramaniam confirmed that RBI has called a meeting on 22 February for feedback from the Andhra Pradesh government on the Malegam committee report. The banking regulator may seek a consensus on MFI regulations by asking states not to promulgate separate laws on the sector, said one of the persons cited above. “This (states having separate regulations) can create huge difficulties for MFIs operating in multiple states,” said the person, who heads a Hyderabad-based MFI. Nearly 80% of the industry is controlled by MFIs that are incorporated as non-banking financial companies (NBFCs). A proposed Central microfinance Bill, yet to be tabled in Parliament, envisages the National Bank for Agriculture and Rural Development as the regulator for smaller MFIs.

Cheque mate

Two months after the Reserve Bank of India (RBI) introduced the new guidelines for the Cheque Truncation System (CTS) in the National Capital Region, some customers have had a nasty surprise: Many cheques started returning to issuers, due to alterations and over-writing in them. The CTS is an online image-based cheque clearing system where cheque images and Magnetic Ink Character Recognition (MICR) data are captured at the collecting bank branch and transmitted electronically. In this process, the existing system of settlement of payment on the basis of physical cheque movement is eliminated. The technology was introduced in the NCR and will be subsequently implemented in Chennai by the middle of the year and in other places like Mumbai. This will minimise the scope for frauds and provide benefits to both banks and the customers. As a result, any cheque which has over-writing or other corrections will be returned to the issuer of the cheque. However, changes or correction can be done on dates and for any other changes, one needs to issue a fresh cheque. The cheque images captured at the presenting bank in the NCR are transmitted to the clearing house for onward transmission to the payee or drawee bank. It is the responsibility of the drawee bank to capture the inward data and images and generate the return file for unpaid instruments. The electronic image of the cheque is sent to the drawee branch along with the image of the deposit slip which is clipped with the cheque by the customer. CTS reduces the scope for clearing-related frauds and minimises the cost of collection of cheque. For the bank, the benefits would be immense which would help them to introduce new products and optimise resources. Globally, CTS is being practised across many countries for faster clearing of cheques. The RBI has given a directive to banks prohibiting alterations/corrections on cheques cleared under the image-based CTS. The central bank has also clarified that rule does not apply to cheques cleared under other clearing arrangements such as MICR clearing,non-MICR clearing, over-the-counter collection (for cash payment), or even for direct collection of cheques outside the Clearing House arrangement. Diwakar Nigam, managing director of Newgen Software, the company which has developed the CTS software in NCR, says the system offers better reconciliation and will help prevent fraud. “It will also help a customer to get clearance within NCR in one day’s time and bring in efficiency in the process. It will also reduce the heavy paper-load as the process will be completely digitalised.” He says the second stage will cover Chennai and other southern regions and then to Mumbai. However, it will take three to five years to implement the process across the country. Realisation of proceeds of cheques can be done the same day itself and not 3-4 days which is currently the case across the country. For inter-city cheques, it takes two days for the clearance. CTS is more secure and is protected by a comprehensive Public Key Infrastructure-based security architecture which incorporates basis security and authentication checks such as dual access control. It is more secure a system and does not create any delay or inconvenience to the customer in case the cheque is lost in transit. Bankers say customers should use a dark-colour black ink pen while drawing the instruments and utmost care must be taken while using the rubber stamp and it should not be used on the printed code of the instruments. The physical cheque is warehoused with the presenting bank, in case the customer wants to get back the instrument. Experts the central bank must conduct an awareness campaign on over-writing and other corrections on cheques. “People usually sign near the correction as that is what has been done for many years. But with CTS, a cheque which has an alteration, even with a signature beside the alteration the bank will not accept the cheque and instead return it to the customer,” says a banker. Analysts say customers will have to be careful while issuing cheques for credit card payments, utility payments, insurance and investments, as most of them are linked to late payment fees. As a result of the central bank’s new directive, many utilities have been turning away cheques with any form of correction or alteration even if the changes were validated by the cheque drawer’s signature and that too in places either than the NCR. To avoid any late payment charges, they must pay well before time so that in case the cheque is returned, the customer will have enough time to issue a fresh cheque.

Inflation eases, but no one’s ready to bet it’s a trend yet

Headline inflation rate based on wholesale price index (WPI) did show signs of easing when it fell to a two-month low of 8.23% in January from 8.43% in December. But not everyone’s convinced the road heads down from here. Going by the naysayers, high global commodity prices and supply side bottlenecks could throw surprises going forward. “As of now, inflation has probably peaked out. But we will need to keep an eye on global commodity prices and supply side bottlenecks,” said Anubhuti Sahay, economist, Standard Chartered Bank. A Prasanna, economist, ICICI Securities Primary Dealership, said, “In headline terms, inflation is going to ease, but the point is it would not come down too fast. It will come down only gradually.” This means inflation will continue to be a cause of concern for the Reserve Bank of India (RBI). A few economists in fact feel WPI inflation will rise again.  “February 2011 headline inflation can rise back to about 8.50%. Even though food inflation is now easing, non-food inflationary pressures remain strong on the back of rising commodity prices globally, especially energy,” said Gaurav Kapur, senior economist with the Royal Bank of Scotland NV. The strength of inflationary pressures is visible from the fact that despite a significantly high statistical base effect of almost 1.5%, the headline inflation in January eased by just about 20 basis points, Kapur pointed out. According to the economists, inflation will be above RBI’s comfort zone of 7% by March and will be hovering in the 6% zone for the entire 2011, forcing the central bank to keep hiking rates further. “Inflation will be about 6% pretty much during 2011 due to which RBI will be concerned,” Prasanna said. Siddhartha Sanyal, chief economist for India, Barclays Capital sees March inflation numbers at 7-7.5%. “Talking about the bigger picture, the stickiness in inflation still remains. In FY12 also, the inflation will remain sticky,” Sanyal said. All the economists DNA spoke to expected the RBI to go for one more hike in the repo rate and reverse repo rate, of 25 basis points each, in the next mid-quarter review of monetary policy to be held on March 17.

Don't malign the MFIs

The controversy over the role of microfinance institutions (MFIs) refuses to die down. While one side believes MFIs are ripping off customers and adding to indebtedness of households, which has resulted in higher suicide levels, the other side presents equally compelling arguments. It points to how MFIs are saving rural folk from moneylenders, how their interest rates are lower than moneylenders, how they're more convenient for borrowers, and so on. While the political class, especially in Andhra Pradesh where MFIs have their largest business, have come down against MFIs, even the Malegam Committee of RBI has seen some merit in the arguments—yet it has put many curbs on how MFIs are to function, on the interest rates they can charge, and so on. While the importance of microfinance in consumption-smoothening should not be underestimated, it has a larger impact when the loans are given for productive assets. Evidence from Bangladesh and Indonesia indicates that high-quality, dependable, receptive and long-term oriented MFIs for the poor can go a long way in improving access to finance (Morduch and Rutherford, 2003). Recent studies have also pointed to the crucial role that can be played by MFIs by providing composite services; given the wide array of financial transactions that typify the financial life of the poor.      

Economists See Rates Rising 1% More in ’11

RBI’s task of controlling inflation, especially since it’s supply-driven, will be more complicated - Economists expect the Reserve Bank of India to raise key policy rates by 50-100 basis points (1 bp is 0.01%) this year after they analysed the latest inflation figures released by the government. The annual inflation rate, measured by the variation in wholesale price indices (WPI), rose 8.3% in January. Though much of the price rise, which has moderated over the previous month’s levels, has been largely due to supply-side factors, economists expect the Reserve Bank of India’s job, which is essentially focused on managing the demand side, to be more complicated.
“The current spell of inflation in India remains supply driven, but an elevated headline print and sticky core inflation will make the job of the central bank more complicated,” said a report by Sidharth Sanyal and Rahul Bajoria of Barclays Capital. The central bank continues to prioritise inflation management over growth concerns. We expect RBI to deliver another 75 bps hike in the repo rate during 2011, taking it to 7.25% by the end of the year. However, given the current structural pressure on liquidity along with high inflation, we think policy rate hikes may no longer be “costless” for future growth,” the report said.  “We maintain our view of RBI hiking by an additional 50bps in 2011. This would take the repo and reverse-repo rates up to 7% and 6%, respectively,” said a report by Rohini Malkani of Citi. “The composition of food inflation reveals that persistent high prices appear to have a structural as well as cyclical component. This, coupled with higher oil prices, is likely to result in inflation being sticky at 6.5-7% with an upward bias through 2011.”  Besides, both HSBC and Deutsche Bank expect RBI to raise rates by 100bps. “We expect the central bank to hike policy rates by 100bps through the course of 2011, taking the repo rate to 7.5% by the end of the year,” said a report by Taimur Baig and Kaushik Das. “We see substantial risks of WPI inflation remaining higher than RBI’s forecast of 7% by end-March 2011. A bigger concern is that from the second quarter of 2011, the base effect would turn adverse and put further pressure on WPI inflation,” they said in the report. “Add to that a likelihood of a nominal hike in diesel (5-6%) and petrol (10%) prices by the middle of the year, there is then little scope of WPI inflation to stabilise below 8% through the course of 2011,” the report added