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Here Is Why RBI Hiked Repo Rate By 40 Basis Points

The Reserve Bank of India raised the key lending rate - repo rate - by 40 basis points to counter the rising inflation

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RBI Governor Shaktikanta Das

The Reserve Bank of India Governor Shaktikanta Das on Wednesday, in a surprise move, announced that its Monetary Policy Committee (MPC) raised the key lending rate - repo rate - by 40 basis points to counter the rising inflation which has been above its tolerance level of 6 per cent from the last three months till March.

The revised repo rate now stands at 4.40 per cent likewise reverse repo rate has been hiked to 3.75 per cent while the RBI MPC maintained its accommodative policy. This is the first time, since August 2018, that the repo rate has been hiked by the RBI.

Withdrawal of excess liquidity

In a move to withdraw excess liquidity, the Reserve Bank of India decided to increase the cash reserve ratio (CRR) by 50 basis points to 4.5 per cent. CRR hike will lead to withdrawal of Rs 87,000 crore, and will be effective from midnight of May 21, Governor Das said.

The CRR hike will be effective from May 21.

Sandeep Bagla, CEO, Trust Mutual Fund said, "Finally, RBI has woken up to inflationary expectations and hiked rates by 40 bps to take the effective corridor to 4.15% - 4.65%.  Market participants should expect at least 35 bps hike in June as well. In spite of the hikes, the monetary policy still remains accommodative. It is like saying that your salary has been increased, but you still remain underpaid. The implication is the rates need to be hiked far more than current levels. While RBI actions are most welcome from a financial stability perspective, inflation will stay high for months to come."

"CRR has been hiked as well reducing liquidity in the system. One can expect the US Fed to increase rates and provide guidance on the pace and quantity of reduction in its gargantuan balance sheet. It is likely to be a tough market for all asset markets. Indian bonds could trade later in range of 8-8.50 per cent," added Bagla.

Inflation Concerns

While the inflation has remained above the targetted 6 per cent since January, Das said the inflation print in April is also likely to be high.

The retail inflation print for March stood at 6.95 per cent.

The governor said the MPC decision reversed the May 2020 interest rate cut by an equal amount.

The central bank had last revised its policy repo rate or the short-term lending rate on May 22, 2020, in an off-policy cycle to perk up demand by cutting the interest rate to a historic low of 4 per cent.

The announcement comes days after the 595th meeting of the Central Board of Directors of the Reserve Bank of India. 

On Monday, the central board of the RBI approved the nomination of Rajiv Ranjan as a member of the MPC. Ranjan replaced Mridul Saggar, who retired on April 30. 

Ranjan is the third internal member (ex-officio) of the MPC. The next monetary policy meeting is scheduled for June 6-8.

In the last MPC meeting, it was decided to stick to an accommodative stance "while focussing on withdrawal of accommodation to ensure that inflation remains within the target going forward while supporting growth".
 

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