Highlights of macroeconomic and monetary developments in the Indian economy during 2007-08 announced by the RBI governor on 30th October 2007.

• The Indian economy continued to grow at a strong clip and grew by 9.3% in Q1 ’07-08 (9.6% Q1 ’06-07)
• Industrial production grew by 9.8% during Apr-Aug’07 (11% during the same period last year). The manufacturing sector grew at 10.3% as compared to 12.2% during April-Aug ’06.
• Core Sector comprising of the 6 infrastructure industries registered slower growth at 6.6% during Apr-Aug ’07 as compared with 8.3% a year ago.
• The services sector grew by 10.6% in Q1 ’07 (11.7% Q1 ’06).
• Agricultural grew by an impressive 3.8% in Q1 ’07 vis-à-vis 2.8% growth in growth in Q1 ’07.
• Kharif crops sown area has increased by about 3.1% y-o-y. The monsoon in 2007 has been 5% above normal as compared to 1% below normal in ’06. Better monsoons have increased the prospects for rabi crops.
• RBI holds its estimate for overall GDP at 8.5% for 2007-08

Policy Measures:

• RBI governor, YV Reddy left all the key variables untouched, except the Cash Reserve Ratio (CRR) which was increased by 50 bps to 7.50% w.e.f. 10th November 2007.

Key Monetary Policy Rates      (%)
 

• The hike in CRR is estimated to mop up about Rs.15000 crs ($3.75bn) from the economy.
• The economy has been flushed with liquidity largely owing to the infusion of funds by FIIs. According to RBI the excess liquidity in the system is around Rs222582 crs (Oct 24, 2007).
• The Bank increased the ceiling on Market Stabilisation Scheme (MSS) for the fourth time to Rs 200,000 crs from Rs. 150,000 crs.
• During Apr-Oct ’07, forex inflow was $ 62 bn of which FIIs pumped in $21.2bn.
• Increased foreign inflows have led to a sharp appreciation of the Rupee vis-à-vis the dollar by 10.9% between Jan -Oct’07.
• Increasing FII inflows are to a certain extent a result of the interest rate differential between India and the international markets. This problem has been accentuated by the sub prime crisis in the US. Many of the international funds are looking for attractive investment opportunities in emerging economies. Given the appeal of the Indian growth story, India is a prominent destination for such funds. The Fed is expected to make its announcement regarding the US interest rate on 31st October 2007. This will be a key determinant of foreign exchange inflows. If the Fed decides to lower the interest rates to further mitigate the impact of the sub-prime crisis, it is likely that more FII funds would be diverted into the Indian stock market. This would strengthen the rupee further and inflate asset prices.

• The CRR hike is likely to dent the profitability of Banks as their loanable funds would reduce. Banks have been offering high deposit rates with lock-in terms. This may be unsustainable in such a scenario and one may see a reduction in deposit rates. Lending rates are likely to increase or at least stay stable.
• EMI sensitive sectors like automobiles, consumer durables, housing etc have already been adversely affected.  Once the CRR hike takes effect it would reduce the liquidity within the system thus making the lending environment stringent further adversely affecting the EMI sensitive sectors.
• RBI could have taken steps to reduce domestic interest rates so that arbitrage opportunities would be reduced. This could lead to a reduction in FII inflows which in turn would exert less pressure on the rupee to appreciate vis-à-vis the dollar.