India's central bank loosens credit to support economy, keeps rates on hold

[June 03, 2014]  By Suvashree Dey Choudhury and Rafael Nam

MUMBAI (Reuters) - India's central bank kept its key policy rate on hold on Tuesday, but eased rules to spur bank lending in a move set to be welcomed by the new pro-business government as it seeks to revive economic growth.

The Reserve Bank of India also hinted it would not raise interest rates further as long as inflationary pressures continued to ease.

Governor Raghuram Rajan kept the country's key policy rate unchanged at 8 percent, as widely expected, but reduced the mandatory amount of bonds lenders must park at the RBI - called the statutory liquidity ratio - by 50 basis points to 22.5 percent of deposits, starting in mid-June.

"The decisive election result, together with improved sentiment should ... create a conducive environment for comprehensive policy actions and a revival in aggregate demand as well as a gradual recovery of growth during the course of the year," Rajan said in the RBI statement.

"If the economy stays on this course, further policy tightening will not be warranted," Rajan said referring to the moderating inflation trend.

The benchmark 10-year bond yield briefly rose 5 basis points to 8.70 percent after the SLR cut announcement, but retreated on the back of a dovish tone in the policy. Economists in a Reuters poll had overwhelmingly expected the RBI would keep India's policy repo rate on hold, after last raising interest rates by a quarter percentage point in January.

The pause comes as Rajan is showing some success in bringing down consumer price inflation (CPI) after raising interest rates by a total of 75 basis points since September.

Except for an increase in April to 8.59 percent, retail prices have cooled in 2014 from the near 10 percent level in the two previous years.

Rajan will now have to sell his agenda - which puts priority on the fight against inflation - to the government headed by new prime minister, Narendra Modi, while taking steps to help it boost growth.

In turn, investors are hopeful the new government will respond by narrowing the fiscal deficit and tackling the supply-side factors that drive up food inflation in India, thus easing the burden on the poor and restoring investors' confidence.

Analysts say such a concerted effort by the government could help the RBI meet its target to bring down CPI inflation to 8 percent by January 2015 and 6 percent the following year.

(Editing by Jacqueline Wong)

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