Domestic Developments

• Based on the current assessment of a pick-up in agricultural output and in the momentum in other sectors, GDP growth projection for 2005-06 revised to 7.0-7.5 per cent from the earlier projection of around 7.0 per cent.
• Annual inflation, as measured by point-to-point variations in wholesale price index, receded from 6.0 per cent in April 2005 to 4.6 per cent in October 2005.
• Inflation in the range of 5.0-5.5 per cent as projected. Forward looking policy response is necessary to realise growth momentum and potential for higher growth without adding to inflation expectations.
• Money supply (M3) may turn out to be somewhat higher than the earlier projection of 14.5 per cent for the full year. Aggregate deposit growth also expected to be higher than earlier projection.
• Year-on-year adjusted non-food credit is expected to increase significantly higher than 19.0 per cent projected earlier.
• Financial markets have remained stable and orderly, although interest rates have firmed up in almost all segments. The yield curve has steepened. Significant increase in CBLO volumes.
• Total liquidity sterilised in the form of MSS, LAF and surplus balances of Central Government increased from an average of about Rs.1,14,192 crore in March 2005 to Rs.1,20,076 crore in October 2005.
• The market borrowing programme of the Central Government has so far remained consistent with the projections set out in the Union Budget for 2005-06.

External Developments

• Exports in US dollar terms in the first half of 2005-06 increased by 20.5 per cent compared with 30.8 per cent in the corresponding period in the previous year. Imports rose by 33.1 per cent as against an increase of 37.3 per cent in the corresponding period last year. Hardening of international crude oil prices and import demand emanating from a pick-up in domestic industrial activity contributed to the import growth observed.
• Foreign exchange reserves stood at US$ 143.4 billion as on October 14, 2005, increasing from US$ 141.5 billion as at end-March 2005.
• Evolving developments in the balance of payments warrant careful monitoring in view of oil prices and continued strong investment demand.
• Foreign exchange market witnessed orderly conditions in the first half of 2005-06. The exchange rate of the rupee depreciated by 3.0 per cent to US dollar by October 21, 2005, from Rs.43.75 per US dollar at end-March 2005 to Rs.45.09 per US dollar. However, it appreciated by 4.2 per cent against the Euro, by 2.5 per cent against the Pound sterling and by 4.5 per cent against the Japanese yen during the period

Global Developments

• Global economic activity remained robust but slackened moderately in the second quarter of 2005; Likely growth of 4.3 per cent in 2005 from 5.1 per cent in 2004.
• Rise in oil prices has triggered inflationary pressures globally, remaining the single largest risk to the global economy.
• Risks to global growth also emanate from the persisting macroeconomic imbalances and the resulting abundance of global liquidity, asset bubbles, excessive leveraging in financial markets.

Overall Assessment

• On balance, macroeconomic and financial conditions have evolved as anticipated. Overall industrial growth has strengthened, monsoon fears have eased, non-food credit growth has been buoyant, the demand for government securities has been sustained and a pick-up in investment demand is evident.
• Some downward risks to the economic outlook have emerged in the recent months. Ensuring credit quality and increasing the pace of investment in infrastructure is important. Asset prices have registered a substantial increase. The overall positive sentiment, the business confidence of the private sector and the strength as well as resilience of the domestic economy would continue to determine capital flows.

Stance of Monetary Policy

• The Reserve Bank will continue to ensure that appropriate liquidity is maintained in the system so that all legitimate requirements of credit are met, consistent with the objective of price stability. Towards this end, RBI will continue with its policy of active demand management of liquidity through open market operations including MSS, LAF and CRR, and using all the policy instruments at its disposal flexibly, as and when the situation warrants.
  
• Barring the emergence of any adverse and unexpected developments in various sectors of the economy and keeping in view the current assessment of the economy including the outlook for inflation, the overall stance of monetary policy for the remaining part of the year will be: (i) Consistent with emphasis on price stability, provision of appropriate liquidity to meet genuine credit needs and support export and investment demand in the economy. (ii) Ensuring an interest rate environment that is conducive to macroeconomic and price stability, and maintaining the growth momentum. (iii) To consider measures in a calibrated and prompt manner, in response to evolving circumstances with a view to stabilising inflationary expectations.

Monetary Measures

• Bank Rate kept unchanged at 6.0 per cent.
• Reverse Repo Rate increased by 25 basis points to 5.25 per cent, effective October 26, 2005. The spread between reverse repo rate and the repo rate under LAF maintained at 100 basis points.
• The cash reserve ratio (CRR) kept unchanged at 5.0 per cent.

Developmental and Regulatory Policies

Interest Rate Policy

• Indian Banks’ Association being asked to review the benchmark prime lending rate (BPLR) system and issue transparent guidelines for appropriate pricing of credit.

Financial Markets

• The Reserve Bank has constituted a new department named as Financial Markets Department (FMD) in July 2005 with a view to moving towards functional separation between debt management and monetary operations.
• Intra-day short selling in government securities proposed to be introduced.
• NDS-OM module to be extended to all insurance entities which are mandated to invest in government securities.
• Screen-based negotiated quote-driven system for call/notice and term money markets and electronic trading platform for market repo operations in government securities are being developed by Clearing Corporation of India Ltd. (CCIL).

External Commercial Borrowings

• Special purpose vehicles (SPVs) or any other entity, notified by the Reserve Bank, which are set up to finance infrastructure companies/projects would be treated as financial institutions and ECBs raised by such entities would be considered under the approval route.
• Banks to be allowed to issue guarantees or standby letters of credit in respect of ECBs raised by textile companies for modernistation or expansion of textile units.

Credit Delivery Mechanisms

• Banks advised to fix their own targets for financing the SME sector so as to reflect higher disbursement; banks to formulate liberal and comprehensive policies for extending loans to the SME sector and rationalise the cost of loans to this sector with cost linked to credit ratings.
• A debt restructuring mechanism for units in the SME sector, in line with the corporate debt restructuring (CDR) mechanism prevailing in the banking sector, has been formulated by the Reserve Bank. The performance of the CDR mechanism was reviewed and the changes to the existing CDR scheme have been finalised.
• The Micro Finance Development Fund (MFDF) set up in the NABARD re-designated as the Microfinance Development and Equity Fund (MFDEF) and its corpus increased from Rs.100 crore to Rs.200 crore. The modalities in regard to the functioning of the MFDEF are being worked out.
• Internal Working Group proposed to examine the whole gamut of issues and suggest suitable revisions to guidelines in regard to relief measures to be provided in areas affected by natural calamities.

Financial Inclusion

• Measures proposed on credit delivery mechanisms with a view to ensuring financial inclusion of all segments of the population, in both rural and urban areas, a comprehensive framework to revive the co-operative credit system, revitalise the regional rural banks (RRBs) and reorient commercial banking towards the credit-disadvantaged sections of society.
• With a view to achieving greater financial inclusion all banks need to make available a basic banking `no frills' account either with `nil' or very low minimum balances as well as charges that would make such accounts accessible to vast sections of population. All banks are urged to give wide publicity to the facility of such a `no-frills' account so as to ensure greater financial inclusion.

Prudential Measures

• Bank's aggregate capital market exposure restricted to 40 per cent of the net worth of the bank on a solo and consolidated basis; consolidated direct capital market exposure modified to 20 per cent of the bank's consolidated net worth. Banks having sound internal controls and robust risk management systems can approach the Reserve Bank for higher limits.
• General provisioning requirement for 'standard advances' increased from the present level of 0.25 per cent to 0.40 per cent; direct advances to agricultural and SME sectors exempted from the additional provisioning requirement.
• Supervisory review process to be initiated with select banks having significant exposure to some sectors, namely, real estate, highly leveraged NBFCs, venture capital funds and capital markets, in order to ensure that effective risk mitigants and sound internal controls are in place.
• General permission to banks to issue debit cards in tie-up with non-bank entities.

Institutional Developments

• By end-March 2006, 15,000 branches are proposed to be covered by RTGS connectivity, and the number of monthly transactions of the system is expected to expand from one lakh to two lakh.
• The National Electronic Funds Transfer (NEFT) system would be implemented in phases for all networked branches of banks all over the country.
• The pilot project for Cheque Truncation System is expected to be implemented in New Delhi by end-March 2006.
• National settlement system (NSS) to enable banks to manage liquidity in an efficient and cost effective manner to be introduced in the four metropolitan centres by end-December 2005.
• New company for retail payment systems proposed to be set up under Section 25 of Companies Act; to be owned and operated by banks and likely to get operational from April 1, 2006.
• Banks urged to test their business continuity plans periodically.
• Currency chest facility and licence to conduct foreign exchange business (authorised person licence) to scheduled UCBs registered under the Multi-State Co-operative Societies Act and under the State Acts where the State Governments concerned have assured regulatory coordination by entering into MoU with the Reserve Bank.
• Acquirer UCB to be permitted to amortise the losses taken over from the acquired UCB over a period of not more than five years, including the year of merger.
• Details of the scheme regarding implementation of the provisions of the Right to Information Act, 2005 have been placed on the Reserve Bank's website.
• The Reserve Bank has recently updated its nominal effective exchange rates (NEER) and real effective exchange rates (REER) indices. The new 6-currency indices and the revised 36-country indices of NEER and REER would be published in the the Reserve Bank of India Bulletin of December 2005.

The Third Quarter Review of Part I of the annual policy to be undertaken on January 24, 2006.