It was less than four weeks ago that the Reserve Bank of India, under new head Raghuram Rajan, stunned the world on September 20 when it 813530announced that it would both hike its repo and cash reserve rates in an inflation fighting step, while lowering its marginal standing facility rate by 75 bps to 9.5% in order to boost banking sector liquidity, hence “bipolar policy” of the kind most recently seen in Europe. Moments ago, the RBI once again showed that when faced with the option of consumer pain, i.e. runaway inflation, and preserving a banking status quo, i.e. liquidity, the central bank will always choose the latter, when in a surprising move the RBI cut its Marginal Standing Facility rate by further 50 basis points, from 9.5% to 9.0%. 

It seems the liquidity crunch in India is worse than expected. As to whether this incremental boost of liquidity, now amounting to 125 bps in four weeks, will “spur” much needed deflation, or whether purchases of gold will once again be blamed for everything that’s wrong under the Indian sun, that is a rhetorical question we are confident we don’t have to answer.

Finally, putting the RBI’s schizophrenic policy in perspective, watch the ongoing divergence between core cash/repo rates and the marginal standing facility, which continue their convergence path.

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