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Indian financial year ending today – interesting developments/ramifications

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Today is the year-end of the Indian Financial system (the Indian financial system works from April 1st to March 31st).

As a fitting goodbye to fiscal 2006 (FY 2006-07), the RBI (the Reserve bank of India) has hiked the repo rate and the CRR (Cash reserve ratio).

What is the CRR?

The CRR is a portion of the deposits consumers have with banks that banks park (as cash) with the RBI

What is the Repo?

The repo rate is the rate at which the RBI lends money to the banks.

Rationale for this hike – CRR

Inflation is yet to abate

Banks may not have sufficient liquidity for comfort – this probably explains why banks are falling all over themselves to entice people to park deposits (esp. short term) with them at attractive interest rates as high as 10% in some banks depending of course on the term of the deposit.

Rationale for this hike – Repo

Money will essentially become more expensive, interest rates will rise (ex: home loan interest rates, the savings rate from the banks perspective).

This means banks are, in effect, encouraging consumers to save rather than spend money (say on home loans, personal loans etc.)

The immediate aftermath of this is that some of the leading financial institutions, such as ICICI, immediately announced an interest rate hike.

ICICI announced a 1% hike in its PLR (prime lending rate) and this means its home loan rates etc. will witness a surge. Fixed rates of ICICI were at 13% and I guess with this, it might go upto 14%.

A question everyone likes to ask is this: When would this interest rate rise subside?

A quick speculative thought that comes to my mind is that the interest rate rise regime will keep peaking since the home loan bubble initiated by a low interest rate regime is yet to cool off.

ex: With the increased home loan borrowers, there was increased probability of banks having more people defaulting and they had to set limits to loan write-off’s etc. for fear of people defaulting on their loans. Recently, the RBI spoke tough with banks to limit this.

On an interesting note, I read somewhere that its good to open a bank since you get to keep everyone’s money and invest it in higher yield instruments! The same logic applies to owning insurance businesses – that principally operate on the “law of large numbers”.

What this means is this: If an insurance business has a large # of subscribers paying a premium, the business would still be giving away the insurance claims as a small percentage of that subscriber base. A wild example here is that if there are 1000 people taking up a health insurance plan, only 1% of them might actually stake the claim. This means the money disbursed to claimants is a small percentage of the money collected from the policy holders which essentially is how an insurance business operates.

Re-insurance is where an insurance company insures its liabilities with a re-insurance company.

I have a friend in SwissRe who explained these concepts to me – real food for thought!

By the way, the Indian rupee has appreciated quite a bit and is currently at 1$ = Rs. 43! This means exporters would be hit. It would be interesting to see all the big behemoths of the Indian IT industry report earnings for the quarter ending March 31st 2007 since their exposure to the foreign currency would have caused their exports to take a hit as a result of this rising rupee!

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Written by Naveen Athresh

March 31, 2007 at 9:47 pm

One Response

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  1. I am always searching online for articles that can help me. Thank you

    First Time Buyer Home Loans

    February 4, 2010 at 5:32 pm


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