Full Text - RBI's Third Quarter Review of Monetary Policy Statement 2012-13
I. The State of the Economy
17. The estimated total flow of financial resources to the commercial sector for the current financial year up to mid-January was Rs9.6 trillion, higher than Rs8.1 trillion during the corresponding period last year. This was mainly due to increase in bank credit and subscriptions by non-banks to commercial paper.
18. As regards monetary policy transmission during Q3 of 2012-13, the average term deposit rates of scheduled commercial banks (SCBs) declined marginally. Although a few banks reduced their Base Rates modestly during the quarter, the weighted average lending rate as well as the modal Base Rate remained broadly unchanged over the quarter.
19. Liquidity conditions tightened from the second week of November on account of a build-up in the Centre’s cash balances, festival-related lumpy increase in currency demand, and structural pressures brought on by the widening wedge between deposit growth and credit growth. Anticipating liquidity pressures, the Reserve Bank had lowered the cash reserve ratio (CRR) successively in the Mid-Quarter Review (MQR) in September and in the SQR in October. In addition, the Reserve Bank conducted open market operations (OMOs) on five occasions during December 2012 to January 2013, thereby injecting liquidity of Rs470 billion into the banking system. Despite these measures, the average net LAF borrowings at Rs910 billion in January (up to January 27), were above the Reserve Bank’s comfort level.
20. The government securities (G-Secs) market recorded increased turnover, with yields easing substantially in January. The equity market rose further in Q3 of 2012-13 on account of improved sentiment and pick-up in inflows from foreign institutional investors (FIIs).
21. Exports contracted in December for the eighth month in succession, reflecting depressed external demand conditions and structural bottlenecks. On the other hand, imports rose on the back of higher oil and gold imports, consequently widening the merchandise trade deficit in Q3 compared to its level a year ago. On top of the large trade deficit, the slowdown in net exports of services and larger outflows of investment income payments is expected to widen the current account deficit (CAD) further in Q3, beyond the level of 5.4 per cent of GDP recorded in Q2 of 2012-13.
22. So far, net capital flows have been sufficient to finance the CAD. Higher net inflows of portfolio investment and accretions to non-resident deposits compensated for lower net external commercial borrowings and foreign direct investment (FDI) into India. Even though net capital flows have been strong, the sheer size of the external financing requirement imposed by the large CAD has brought to bear downward pressures on the rupee which depreciated in nominal and real terms by January 2013 relative to its level in March 2012.
23. Various measures undertaken by the Government since mid-September, including liberalisation of FDI in retail, aviation, broadcasting and insurance, deferment of general anti-avoidance rules (GAAR), reduction in withholding tax on overseas borrowings by domestic companies and setting up of the Cabinet Committee on Investment have significantly lifted market sentiment which, in due course, should spur investment. Alongside, measures such as progressive deregulation of administered fuel prices, with concerted efforts to adhere to fiscal discipline and carry forward consolidation can potentially correct the twin deficits. These policy actions could help engender stable macroeconomic conditions and return the economy to its high growth trajectory. Further reforms to raise productivity, improve competitiveness and manage the supply constraints, including augmenting energy availability, are crucial for raising the potential growth path in the medium-term.
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