India injects 200bn rupees into financial system

LIQUIDITY MOVE: India's Central Bank is set to inject 200 billion rupees into the financial system. (AFP)

India's central bank injected liquidity into the financial system by cutting the amount of cash commercial banks must hold in reserve, citing "a sharp deterioration" in the world financial situation.

After a day of market turmoil in which Indian stocks plunged nearly six percent, the bank lowered the cash reserve ratio (CRR) - the percentage of cash commercial banks must set aside - by 50 basis points to 8.50 percent, as it sought to ease tight credit conditions that have hit economic demand.

The Reserve Bank of India, which hitherto had made battling double-digit inflation its top aim, said ensuring enough cash in the system would take "priority in the hierarchy of policy objectives over the period ahead."

"Central banks across the world have stepped up their liquidity operations," said the Reserve Bank as it joined a host of other central banks around the world that have injected vast sums into the banking system since the collapse of Lehman Brothers in mid-September to try to head off a global recession.

The move, to take effect October 11, would inject some 200 billion rupees (4.2 billion dollars) into the financial system, the bank said.

The step came after many businesses had complained tight credit conditions were hurting demand and slowing growth in Asia's third-largest economy.

The bank, which has been steadily tightening monetary policy since 2004 in a bid to douse inflation now at 11.99 percent, said the measure was "temporary" and would be reviewed as liquidity conditions changed.

The bank took the step in light of the "evolving environment of heightened uncertainty," it said.

"There has been a sharp deterioration in the global financial environment with the number of troubled financial institutions rising, stock markets weakening and money markets strained," it added.

The bank acted after Mumbai's benchmark 30-share Sensex index tumbled Monday 724.62 points or 5.78 percent to 11,801.7, its lowest since September 2006, while the rupee fell against the dollar to 47.46 - its weakest in over five years.

As of Monday, Indian shares had lost over 41 percent in 2008 as risk-averse foreign funds pulled out over 9.1 billion dollars from the market. During the same period in 2007, overseas funds bought 13.62 billion dollars in equities.

This is a "short-term stabilising measure to take away panic in the markets," said Rupa Rege Nitsure, economist at state-run Bank of Baroda.

The move came after the capital market regulator scrapped most curbs on derivative-backed investment tools known as participatory notes or P-notes in a separate move to spur inflows into the stock market.

The central bank had boosted the cash ratio by 400 basis points since late 2006 as it sought to stop rapid credit expansion from feeding inflation.

Economists said it was too early to say whether the bank's move could be followed up by a cut in its leading short-term lending rate known as the repo at its next policy meeting October 24.

"This was a pro-active measure but we do not suggest the Reserve Bank would start lowering rates immediately," said D.K. Joshi, economist at ratings agency Crisil.

While inflation has been slowing, it is "still at an unacceptably high level," Rupa added. Inflation is well above the central bank's target of seven percent for the fiscal year to March 2009.

The bank said it still was giving a "high priority to price stability."

"With inflation still hovering around 12 percent, we do not think the bank is ready, as yet, to cut the repo rate," said Goldman Sachs economist Tushar Poddar.

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