India cuts rates to ease cash squeeze

MUMBAI, Nov 1 - India on Saturday unexpectedly cut its main short-term lending rate and banks’ reserve requirements to ease a growing cash squeeze, spur faltering economic growth and fend off damage from the global financial crisis.  Analysts said the surprise central bank move, coming just a week after it left rates unchanged at a policy review, showed its concern that strains on Asia’s third-largest economy were quickly becoming more severe. ”These actions were necessary to be taken on the liquidity front and with call rates above 20 percent the situation was getting worse,” said Vikas Agarwal, strategist at JP Morgan in Mumbai.  ”The only question at this point of time which arises is why this was not taken at the time of the policy review last week and the only explanation is they did not anticipate the extent of the liquidity crunch.”  Policymakers around the world have slashed interest rates in recent weeks and injected massive amounts of money into their banking systems in an attempt to combat the spillover effects of the global financial crisis, which is causing credit markets to freeze up and threatens to plunge the world economy into recession.  The central bank cut the repo rate on its main short-term lending rate by 50 basis points to 7.5 per cent and banks cash reserve requirements by 100 basis points to 5.5 per cent.  It also cut banks’ bond reserve requirements by 1 percentage point to 24 percent of their deposits with effect from November 8, 2008, the central bank said in a notification posted on its website.

”The global financial turmoil has had knock-on effects on our financial markets; this has reinforced the importance of focusing on preserving financial stability,” the central bank said.  The cut in its repo rate will take effect from Nov. 3.  The cut in banks’ cash reserve requirements will take effect in two steps -- one from the fortnight beginning Oct 25 and the second from Nov 8 and will release 400 billion rupees ($81 billion) into the banking system.  India’s economy has grown at or above 9 per cent for the past three fiscal years, but is expected to grow by less than 8 per cent this year as a global slowdown reduces exports.  Industrial output grew at an annual rate of just 1.3 per cent in August.  The central bank also said it would allow all commercial banks to access up to 1 per cent of their deposits in cash from the central bank via a special liquidity window for a period of up to 90 days.  The central bank would also buy back some of its market stabilisation bonds to inject more liquidity into frozen money markets. Details will be released later.  Overnight cash rates soared to a three-week high of 21 per cent on Friday after outflows towards treasury bills drained cash from the system and banks scrambled to arrange funds for a the bond auction which took place earlier in the day.  The central bank move on Saturday follows a 100 basis point cut in its main short-term lending rate early last week ahead of its scheduled review on Oct 24.