The Reserve Bank of India (RBI) has mooted the idea of lowering banks’ reserve requirements, which have remained high for the Indian banking sector. The move is aimed at making more resources available to market participants.

“Currently, the cash reserve ratio and the statutory liquidity ratio amount to 30 per cent, which has come down from 65 per cent over the years. But it is still considered high,” said RBI Governor D Subbarao, while addressing a national finance symposium organised by Indian Institute of Foreign Trade on Tuesday. “There is a thought at RBI that this should be brought down in a gradual manner,” he added.

“SLR has protected us in crises because banks had liquidity, and Basel-III has a provision which mimics SLR. So, it is not that SLR should be thrown away. But it should certainly be brought down,” Subbarao said. He added SLR needed to be reduced to make credit available for the private sector.

Government bond yields rose after Subbarao's comments, owing to concern that such a move would prompt banks to offload some of their bond holdings. The minimum regulatory requirement acts as a captive demand for government bonds.

“This also means RBI is aware of the possibility of boosting growth through making more resources available to the private sector. However, we think SLR reduction is more of a medium-term plan and in the near term, the focus on inflation would prompt RBI to go for a 25-basis point rise in the September meeting,” said Samiran Chakraborty, head of research (India), Standard Chartered Bank.

The central bank has maintained a hawkish monetary policy stance and raised policy rates 11 times since March 2010 to control inflation, which has stayed stubbornly high.

Sajjid Chinoy, India economist, JP Morgan, said, “It seems the governor was laying out a medium-term goal of reducing distortionary reserve requirements and thereby, alleviating the extent of financial repression in the economy. Most banks are already holding more than the mandated SLR. So, that is not a binding constraint on credit growth. Instead, the investment slowdown and the increasing desire to tap cheaper offshore funds are depressing credit offtake.” Most banks tend to hold two-three per cent more SLR than what is mandated.

Subbarao, however, did not specify a timeframe or the extent the norms could be eased. “It is RBI’s objective to bring it down, but in a calibrated way,” he said.

The central bank had previously reduced the SLR by one percentage point to 24 per cent on December 18, 2010, to ease the tight liquidity condition. The CRR has been unchanged since April 2010.

Economists said the move was in line with the central bank’s plans of financial sector reforms. “If a high proportion of banking assets is compulsorily channelled to the public sector, it defeats the objective of market-based allocation of financial resources. In that sense, a reduction in the SLR would be a positive step to improve financial efficiency,” said Standard Chartered Bank’s Chakraborty.

“We are looking at reintroducing inflation-indexed bonds. Whether they would be successful in the period of relatively high inflation that we now have, is a concern. We would think about this, but will certainly introduce it,” Subbarao said. Inflation-indexed bonds are floating rate bonds linked to the inflation rate. Such bonds help investors shield their investments from mark-to-market volatility.

In terms of capital account convertibility he said the central bank would liberalise slowly. He added India’s capital account was substantially open, but not fully open as of now. ( BS )