Industry fears rate hike would lead to liquidity crunch

The Reserve Bank of India's (RBI) 50 basis point hike in interest rate has come as a surprise to the industry. The hike has not gone down well with the industry, which fears the increase would lead to a liquidity crunch and a resultant rise in lending rates. This has come at a time when business confidence is on a decline.

The central bank on Tuesday raised repo rate by 50 basis points to 8 per cent and the reverse repo to 7 per cent, while it raised inflation forecast to 7 per cent from 6 per cent earlier.

"The 50 basis point hike suggests that the RBI's assessment of inflation is far more dire (it revised its year-end inflation forecast up from 6 to 7 per cent) than the market and its tolerance much less," HDFC Bank chief economist Abheek Barua said.

"The RBI's pessimism on inflation seems to be underpinned by three factors -- the upward revision in prices of petroleum products, the significant increase in the minimum support prices for some agricultural commodities and finally the persistence of non-food manufactured products inflation at elevated levels reflecting underlying demand pressures," Barua said.

The move will definitely have an impact on the economy, said Amar Ambani, Head of Research, IIFL-India Private Clients.

"Investments and consumption could moderate further, which in turn might drag the GDP growth down below 8 per cent. What's worse, the RBI may not be done with the tightening. All hopes are on monsoon and the government in keeping its fiscal health in check," Ambani said.