The Reserve Bank of India cut the CRR or the cash reserve ratio to 5.5 per cent in its credit policy review on Tuesday, injecting Rs 32,000 crore into the system. However, the central bank has kept the short-term lending rate (repo) unchanged.

“CRR is not a substitute for open market operations (OMOs),” said RBI deputy governor Subir Gokarn in an exclusive interview to NDTV Profit.

Gokarn feels that the bank will have to consider monetary implication while cutting the CRR.

Below is the complete transcript. Also watch the accompanying video.

Is this policy review a clear sign of policy reversal?

The rate cycle has peaked. This was anticipated in out guidance in October and it was re-enforced in our guidance in December. And what we said today was a done deal. We are not raising rates any further. While doing that we have to deal with the consequences. We need to take in into account the potential conflict between liquidity objectives and monetary objectives. 

The CRR is clearly a major that has both monetary and liquidity implications. So if we address the liquidity problem using the CRR, what does it do to our monetary stance? Is there a mix or conflicting signal to be sent? And in this situation, given that we have said that the monetary cycle has peaked, we didn’t feel that it was a contradiction with that position in reducing the CRR. So, let's look at as action that is primarily aimed at lessening the liquidity pressure but something that is not inconsistent with our monetary policy stance.

Is CRR the preferred tool for the RBI?

No. It is being used in a situation where it is directly addressing the liquidity stresses and not conflicting with the monetary stance. When we want to reverse rate, we will do that in the appropriate circumstances.

So you are not probably ruing out further CRR or further open market operation (OMO)?
 

We are not ruling out anything. It is just the question of deciding whether the situation is appropriate. While doing OMO, the focus is, the approach is very tactical towards the liquidity pressures. Plus, we also have to consider the monetary implication. That’s why it was possible to do it now. It may not have been possible to do it in a situation where the monetary stance is looking at further tightening.

The RBI has not given any timing or magnitude of guidance. You have mentioned that there are upside risks to inflation. So what is the possibility of one of those inflationary risks materializing? And if that happens then can we at least safely assume that the pace of reduction in the interest rates going forward would not be as much as they way it has been earlier?
 

Well, interest rates went up rather slowly to begin with and then accelerated and that was a result of a clear change in the dynamics of inflation itself. After the oil shock in particular, we saw inflation accelerating in 2010. Later, it accelerated much more sharply. So, the pace of policy was a response to these changing conditions. And hence, the same logic would apply. 

If inflation is going down very sharply then that would call for a different kind of response. Now despite all the risks, we expect inflation to moderate gradually. And that would give us a sense of what our baseline assumptions would be.

How do you define credible fiscal consolidation?

We have had a set of benchmarks over the years in terms of deficit reduction and more so the composition of the deficit. How much is attributed to revenue expenditure, how much to capital expenditure and the ideal case of a zero revenue deficit. But that’s an end point. But you also need to have some adjustment that is credibly taking you in that direction. So a sharp reduction in the revenue composite deficit either because of compressed expenditure or you found ways to enhance revenue or a combination of the two. So, these are the parameters to fiscal consolidation. 

Well, it is not realistic to expect that it will happen in budget. But it is important to send signals; a strategy needs to be put in place. We have this sort of three year rolling projection on those, it has to be credible and we are committed to adhere to those. 

We see a sign of that it is going to impact on the investment climate. We are also talking about policy changes. Investment climate is predictable now. If these factors contribute to a positive investment climate, then in that kind of an environment we see these two factors coming together. That is the space to cut rates and the impact of lower rates on increasing the level of investment. So, we are looking for such favorable circumstances.

You have mentioned that it would be prudent to fully deregulate these reprises one that is something that can give you a sense of something working out?
 

Absolutely! I think the subsidy bill is a very important factor. In the current year budget estimates, the subsidy bill was gapped to the previous said level.