The banks are seeing too much demand for funds and the deposits growth rate has slackened . This has left the liquidity conditions very tight and RBI has tried to address it but has to go along this path further. I have reproduced below the post that appeared on http://www.birdinfo.net on 5th November 2009 which gives an idea about what may happen in market when the interest rates are revised downwards :
The bank credit off take was just up by 9.65% for the year up to Oct 09. This is lowest since April 25, 1997 when it credit growth was 9.61%. The deposit growth is healthy at 19.02% for fortnight ended 23 Oct 09 but the credit shrank by Rs 21750 crs for the same period. This is very strange if seen in historic perspective as India Inc has mostly been clamoring for funds and used to remain starved of funds. The foreign capital inflows have now taken care of their needs at cheap cost besides the profits have been robust for past almost a decade now. India Inc in fact has been under a state of shock at having so many road blocks removed and at the constant patting on back by the govt in terms of relief package etc. The entrepreneurs never expected to see such times and therefore they could not plan enough capital expenditure and newer projects in good time to create demand for funds. Whatever could be incremental demand was nipped in bud by the financial melt down in the rest of the world. Staying secured became the watchword, particularly after the Tatas and Birlas having had trouble at hand for venturing far out in the sea of international business. There is yet one more point about the poorer off take. This relates to the real rate of interest payable being too high, it would be as much as 7% or more considering that inflation is meager 1 to 2%. The US Fed has not raised the interest rates this time too and has decided to keep them in range of zero to 0.25%. In fact the govt and the RBI are not being imaginative enough and are putting artificial barrier in the way of double digit growth. The interest rates need to be brought down shedding the fear of inflation for the inflation is not a foe but a friend of developing economy.
The Indian households have enough of gold to take care of emergency needs but have relatively low income level which needs to be raised and every idle hand has to be provided job. The banks also have to share some part of the blame. In today’s IT enabled working atmosphere the cost of inter-mediation needs to be brought down. They have been making profits at far higher rate. They should dole out cheaper credit to worthy projects. If a taxi-wallah gets his financed at just 6%(deposit rate today) plus 2% i e 8% his income would increase by about Rs 1000 per month. The same is case of finance for hotels. The cheaper credit for these two will see the tourists find affordable hotel and affordable transport all over the tourist spots around the country. The boost to tourism is a real boost to employment and development of infrastructure.