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Tuesday, April 03, 2007

CRR hikes never made such a deep impact


Though no stranger to the central bank stepping in to stem inflation, the reaction of the equity market to the latest hike in the cash reserve ratio (CRR) has never been so extreme. Both, in absolute points or percentage basis, Monday’s fall of more than 600 points was the biggest-ever reaction to an increase in the CRR rate. The Sensex shed 617 points or 4.72% on Monday to end the day at 12,455.37. This was also the second-highest ever, single-day fall of the benchmark index.

Incidentally, the 50 basis points hike in the CRR announced on Friday, was the third such hike in the recent past. Earlier, on December 8, 2006 and February 13, 2007, RBI had announced a similar 50 basis points rise in the CRR.

As a result, the CRR has increased from 5.50% to 6.50% since December last year. However, if the performance of the benchmark Sensex is anything to go by, the earlier hikes did not impact the market in a way the latest one has. When the RBI announced a hike in the CRR from 5% to 5.50% on December 8, 2006, the Sensex reacted by falling by a little over 400 points. On percentage basis, it was nearly 3%. The next rise of 50 basis points that was announced on February 13, 2007, was followed by a fall of only 100 points in the Sensex.

Market experts say an inherent weakness was already visible for the past few days and this, coupled with the recent ‘surprise’ hike in CRR led to the bourses reacting in a negative manner. A moot point to note is that increasingly global central banks are expressing concern over interest rates and inflationary pressures.

“Monday’s fall needs to be looked into in the backdrop of the pace and the quantum of the recent CRR hikes,” says Jay Prakash Sinha, director & head (research), Ambit Capital. He further added that while the pace has been quick, the quantum has also been high. It clearly shows that the government is genuinely concerned about overheating and inflationary pressure build-up.

“The government wants asset prices across sectors to cool down,” said Mr Sinha.Interestingly, the RBI has announced eight CRR hikes since December 2001 and only on two occasions has the Sensex risen after the announcement. However, both rises have been marginal.