The Reserve Bank of India, which was expected to further reduce its key policy rates, has finally declared a cut in its key policy rates on January 2nd. This time the apex regulator has cut the repo rate and reverse repo rate each by 100 basis points and the cash reserve ratio (CRR) has been reduced by 50 basis points.

The monetary measures are announced by the RBI in order to ensure cheap availability to funds to the various sectors. The repo rate - the short term rate at which RBI lends to the banks - has been reduced from 6.5% to 5.5%. Similarly the reverse repo rate - the short term interest rate that banks earn for parking their excess funds with RBI - has come down from 5% to 4%. Even the CRR has been reduced by 50 basis points from 5.5% to 5% and it is expected to induce Rs 20,000 crore into the banking system.

The cut in repo and reverse repo have come into effect immediately, while the reduction in CRR is effective from the fortnight beginning January 17th. Since October, the RBI has cut the repo rate and CRR by 350 and 400 basis points respectively. The reverse repo rate has been cut by 200 basis points over the period.

The regulator said that these measures are taken after reviewing the slowdown in the economy. "It is expected that the reduction in the policy interest rates and the CRR will further enable banks to provide credit for productive purposes at appropriate interest rates," the central bank said.

Chairman of Indian Banks Association and Chairman and Managing Director, Bank of India, Mr T.S. Narayanasami said that the signals by RBI are likely to induce banks to further cut deposit as well as the lending rates. "There are no second thoughts on that," he said.

With inflation cooling down, CRR has been cut and this is expected to assist banks in reviewing their lending and deposit rates soon. "A revisit should be feasible by the first week or middle of February," he said.

However some bankers said that they may reduce the deposit rates first. Mr M.D. Mallya, Chairman and Managing Director, Bank of Baroda, said, "Obviously deposit rates will have to come down before lending rates are cut. At the beginning of the year, the guidance for credit offtake was 20 percent. That guidance was based on the inflation ruling at that time. Now that inflation is down and the thrust is on growth momentum, the current guidance for credit may be around 25-26 per cent for this year."

Further to explain the grounds of rate cut, RBI said: "Exports registered a negative growth for the two recent consecutive months, October-November 2008, for the first time since February 2002. The index of industrial production registered a negative growth of 0.4 per cent during October 2008...Business confidence has been dented significantly. There are clear signs of deceleration in investment demand."

These measures by the RBI came together with the second round of fiscal stimulus package by the government that was also announced on January 2nd with the aim to spur the economic growth.