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India's central bank cuts rate, but warns of risks

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(Globalpost/GlobalPost)

India's central bank cut its main interest rate by 25 basis points on Friday in the third such move this year, but said there was "little space" for further reductions to help the slowing economy.

After meeting in the financial capital Mumbai, the Reserve Bank of India (RBI) said that the benchmark repo rate, at which it lends to commercial banks, would fall to 7.25 percent, as expected by most economists.

After the decision, India's Finance Minister P. Chidambaram, said that there was "scope for more rate cuts, if inflation came down further".

India's headline inflation eased to a three-year-low of 5.96 percent in March, but the consumer price index is at 10.39 percent, led mainly by high food prices.

Explaining the rate cut, the RBI governor Duvvuri Subbarao said that "growth had decelerated continuously," forecasting expansion of 5.7 percent in the new fiscal year -- far below the government's estimate of 6.0-6.5 percent.

But Subbarao warned that there were "significant risks" to inflation in the near-term and said that "monetary policy cannot afford to lower its guard against the possibility of a resurgence of inflation pressures".

The governor also struck a cautious tone about future rate cuts, saying: "Overall, the balance of risks stemming from our assessment of the growth-inflation dynamics yields little space for further monetary easing."

The RBI's decision to cut rates had been forecast by economists and business leaders, who have been calling for lower borrowing costs to help the economy, which grew at an estimated 5.0 percent in the full year to March.

Indian shares fell as much as 0.91 percent to 19,555.05, reacting to the news that further rate cuts were unlikely in coming months, but recovered marginally to 19,613.10 points, down 0.62 percent.

The cash reserve ratio -- the percentage of deposits banks must keep with the central bank -- was kept unchanged.

The RBI's decision to cut rates had been forecast by economists and business leaders, who have been calling for lower borrowing costs to help the economy, which grew at an estimated 5.0 percent in the full year to March.

But they are unsure when the next rate cut could come.

Goldman Sachs chief India economist Tushar Poddar expects the RBI to proceed slowly with future rate cuts. "The forward guidance suggests to us that the RBI is unlikely to cut again in its next policy meeting (of June 17)," he said.

But Nomura economist Sonal Varma said that: "Given the recent fall in commodity prices, upside risks to inflation are likely to remain contained... creating more space for future rate cuts," in a note to clients.

Industry body Associated Chambers of Commerce and Industry of India (Assocham) criticised the RBI for being "over-cautious" on potential risks to India's economy.

"While there is a lot the government should do to improve governance, the RBI should not wash its hands off at the cost of economic growth, which is a must for fulfilling aspirations of the people," Assocham president Rajkumar Dhoot said.

The RBI Friday reiterated that the government should take measures to encourage investment, as policy action was not enough to stimulate the economy.

Subbarao said the biggest risk to India's economy came from the current account deficit, which widened to a record 6.7 percent of GDP in the December quarter.

The government, led by Prime Minister Manmohan Singh, has been battered by a spate of corruption scandals and is keen to revive economic growth before facing voters in general elections due in 2014.

The World Bank on Tuesday lowered its forecast for growth to 6.1 percent for the new fiscal year which started in April, from the 7.0 percent projected six months ago.

The RBI slashed rates by 25 basis points at its previous two meetings in March and January. Rates had previously been on hold for nine months.

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http://www.globalpost.com/dispatch/news/afp/130503/indias-central-bank-cuts-rate-warns-risks