Interest rates to swing upwards

In the Reserve Bank of India’s annual policy for 2010-11, expectations are that inflation and economic growth will again take centre stage and force the central bank to hike the cash reserve ratio as well as policy rates.

“The RBI should hike policy rates by 50 basis points (bps). However, a preference for calibrated moves is likely to result in a 25 bps hike in the repo and reverse repo rates, and a 50 bps CRR hike,” said Sonal Varma, economist, Nomura. Real monetary conditions are too loose and real interest rates too low for the current stage of economic cycle, she said.

But a growth-focused government is in favour of minimal rate hike. RBI governor

D Subbarao met finance minister Pranab Mukherjee in New Delhi on Friday.

“If interest rates rise, investments may slow down, which would in turn affect growth,” said Rajiv Kumar, director and chief executive of Icrier.

The government expects that inflation peaked in March and is on a downward trajectory. “The RBI will take a decision on interest rates in tandem with the government’s plans on growth,” said Manoranjan Sharma, chief economist, Canara Bank.

Economists see liquidity comfortable for a couple of quarters, even if policy rates are hiked. “If CRR is hiked by 50 bps, it will result in a drain of liquidity worth Rs 24,000 crore. But going forward, large FII inflows will boost liquidity,” said Indranil Pan, chief economist, Kotak Mahindra Bank.

The markets have already seen a rate hike caused by inflationary pressures when the RBI raised policy rates by 25 basis points in March. In the last monetary policy review in January 2010, the RBI had hiked CRR by 75 basis points, leaving policy rates untouched, saying if inflation continued to rule high, appropriate steps will be taken.