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23 July 2013
www.ramakrishnavadlamudi.blogspot.com
Bank Rate Revisions (%)
12.00 10.00 8.00 6.00 4.00 2.00 0.00 9.50 6.00 9.00 8.75 8.50 8.25 10.25
17 .A pr .2 01 2
30 .A pr .2 00 3
20 12
29 .J an .2 01 3
20 13
20 13 03 .M ay .
As the above graph illustrates, Bank Rate had been kept in comatose for almost a decade between 2003 and 2012. Suddenly, one fine morning in 2012 RBI rediscovered the Bank Rate and raised it by 350 basis points (or 3.5 percentage points) to 9.50 percent. Since then, it has been revised on five other occasions as shown in the above graph. The reactivation of Bank Rate since 2012 is broadly on the lines of the report (March 2011) of the Deepak Mohanty Committee on the operating procedure of the monetary policy. This article explores the relevance of Bank Rate in the context of monetary policy.
13 .F eb .
19 .M ar .
15 .J ul .2 01 3
Interestingly, the MSF Rate itself is linked to LAF-Repo rate, with a positive spread of 300 basis points (or 3 percentage points) over the Repo rate. So practically, Bank Rate changes whenever the Repo rate is revised by RBI or the spread between the Repo Rate and the MSF Rate is changed. Now, Repo Rate is the single policy rate used by RBI for setting interest rates (monetary management) in the economy. The current rates of RBIs policy rates and reserve ratios are given below:
RBIs Policy Rates Rate % Effective Date 3-May-2013 3-May-2013 16-Jul-2013 15-Jul-2013 Ratio RBIs Reserve Ratios % Effective Date 9-Feb-2013 11-Aug-2012
CRR SLR
4.00 23.00
To know more about MSF and LAF-Repo, just click: http://ramakrishnavadlamudi.blogspot.in/2013/07/update-on-marginal-standingfacility.html LAF-Repo Rate: The Single Policy Rate
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RBI is required to buy or re-discount bills of exchange or other commercial paper at the Bank Rate as per RBI Act, 1934. Since discounting/rediscounting by the RBI has remained in disuse, the Bank Rate had become inactive for several years. Under the revised operating procedure of the monetary policy (since May 2011), the MSF rate has in many ways serves the purposes of Bank Rate as a discount rate. On 13Feb2012, the Bank Rate was raised by 350 basis points and since then it has been made equal to the MSF Rate. This increase was a one-time technical adjustment by RBI to align the Bank Rate with the MSF Rate and was not to be viewed as a change in the monetary policy stance. The role of Bank Rate is now limited to: It is now used for calculating penalty on default in CRR and SLR requirements as required by Section 42(3) of the RBI Act, 1934 and Section 24 of the Banking Regulation Act, 1949, respectively The penal interest on shortfalls in CRR and SLR (depending on the duration of the shortfalls) are Bank Rate plus 3.0 percentage points or Bank Rate plus 5.0 percentage points It is also used by several organizations as a reference point for indexation purposes. For example, under Section 372A of the Companies Act, 1956, inter-corporate loans shall not be made at a rate of interest lower than the prevailing Bank Rate. For all practical purposes, the Bank Rate has become irrelevant as an instrument of liquidity and monetary management.
Summary:
Over the years, the Bank Rate has had its years of glory and gross negligence. RBI had used it for a variety of purposesin the process confusing the markets and other stakeholders about the relevance of Bank Rate in liquidity and monetary management. With RBIs flip-flop on Bank Rate, vague signals were sent to the market. One hopes that in future RBI will follow a consistent policy on Bank Rate. Today, the Bank Rate largely plays a technical-but-limited role only. Its role is confined to penalties charged by RBI on banks for not maintaining SLR and CRR requirements. The importance of Bank Rate as a monetary policy instrument has waned after the introduction of LAF-Repo rate in June 2000.
--Notes: LAF-Repo Rate under RBIs Liquidity Adjustment Facility (LAF) is the rate at which RBI lends overnight funds to banks; CRR Cash Reserve Ratio; and SLR Statutory Liquidity Ratio. Reference: RBI Act, Deepak Mohanty Committee report, other RBI reports and www.mca.org.in. Disclaimer: The author is an investment analyst and freelance writer. His articles on financial markets and Indian economy can be reached at:
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