RBI exit strategy won't disrupt growth: Subir Gokarn

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The Reserve Bank of India has begun its alignment process to adjust to the changes in the economy, Deputy Governor Subir Gokarn said, soon after the central bank, unveiling its quarterly monetary policy review, upped the cash reserve ratio (CRR) - the minimum deposit reserves that banks need to hold - to 5.75% from 5%. The RBI though left the repo and reverse repo rates (rates at which banks borrow from RBI and vice versa) unchanged.

The move aimed to squeeze out excess liquidity from the economy in the wake of inflationary pressures it faces hopes to be minimally disruptive for its recovery from the global financial crisis, Gokarn, in an exclusive interview with CNBC-TV18 said.

Late in 2008 and early 2009, the RBI lowered the CRR and cut rates aggressively to induce liquidity into the system to counter the crisis.

"This is a beginning of the re-alignment of policy and will be gradual," Gokarn said, adding that the move may take out Rs 36,000 crore from the setup.

"The aim is to maintain price stability and not to choke growth impulses."

Here is a verbatim transcript of an exclusive interview with Subir Gokarn on CNBC-TV18. Also watch the accompanying video.

Q: As a monetary policy expert, how can you reconcile with a 7.5% GDP growth and 8.5% inflation and just a 3.25% policy rate? Is it not out of alignment?

A: Alignment is not a one off process. Having gone through whole of the second half or the third quarter 2008 into the early part of 2009 with massive changes in whole of our policy rates, in a situation where circumstances warranted that kind of drastic action, we are now getting into a process where adjustments have to be made. Those adjustments are going to be made based on one the priorities that the circumstance set and the ability to be hopefully not at all disruptive.

I agree that it is 3.25% out of alignment, however, for us the priority was to deal with liquidity. We felt this was the best way to do that. This is the beginning for process of realignment. It will not happen anywhere near the pace and the frenzy with which had happened in October-November 2008. It's going to be gradual and non-disruptive. All of the indicators that are out of alignment will gradually get to the alignment. Therefore, I don't think you should evaluate the 3.25% as a permanent scenario. There are possibilities, as the circumstances normalize, that all these rates will also be normalized along with it.

Q: Coming to the liquidity instrument, if you take out Rs 36,000 crore because of the 75 basis points CRR hike, the balance, which is now Rs 70,000 crore, gets reduced to about Rs 35,000 crore.

A: I think that is an underestimate becausewe are looking at the aggregation of liquidity adjustment facility (LAF) and government balances with RBI. Government balances have grown in the last few weeks because of advance tax payment. Those will come back into system. As they come back in system, they will add to the overall pool of liquidity.

So we have taken away Rs 36,000 crore out of something close to Rs 100,000 crore. So close to Rs 60,000 crore or Rs 70,000 crore is available in terms of supporting the demand for credit by the private sector and the potential initial borrowing requirements of government. On this basis, we decided 75 basis points a little more closer to our target of extracting excess liquidity.

Q: The third quarter advance taxes took away Rs 40,000 crore. It's possible that something more will be taken away on March 15 by way of advance taxes. Do you think that there could be a situation where some banks will borrow from the repo market? Do you think the call rate could move towards repo rate in March itself?

A: Based on the projections, we have overall funding requirements. The cushion for liquidity that we have now left in the system, is a very remote possibility. I cannot rule it out because anything many happen. In a base line scenario, that kind of friction is highly unlikely. If it does arise, we have dealt with it in the past. We obviously have to deal with it again but our projections do not suggest that. If it was highly a likely situation, we would have factored that into our action.