The Reserve Bank of India is expected to hold the policy rates at the upcoming review meeting this week amid persisting domestic challenges and worsening global economic woes.

Major global central banks are either cutting interest rates or contemplating the same as the fight to tame the inflation is either nearing its logical end or becoming too costly.

The Bank of England last week cut the policy rates to 5 per cent, increasing the expectation from the US Federal Reserve to go for the first cut in September this year.

The US was considered to be inching closer to a soft-landing although the latest ‘weaker-than-expected jobs data’ has suddenly stoked fears of a recession in America, increasing the pressure on the Fed to effect immediate cuts.

Threats galore

Apart from the potential US action, the other major element in the RBI’s calculation would be the rising Middle East tensions and the unwinding of yen carry trades that could impact markets here. Crude prices are fluctuating as the probability of a broader conflict in the Middle East is increasing. Despite India’s inherent advantages like favourable demographics, strong domestic consumption, any flare up in oil prices, large sell-offs in global equity markets and deeper recessionary tendencies in the US and Europe can dent our growth objectives.

Domestically, the headline inflation remained high at above 5 per cent in June, driven by sporadic sharp spikes in food prices while the extreme weather continues to threaten the calculations, going forward.

In fact, rising costs of vegetables, cereals and fruit had pushed up food inflation to a six-month high of 8.4 per cent in the same period. Core inflation has inched up to 3.1 per cent.

The weather remains another key piece in this jigsaw puzzle. The latest reports suggest that so far, the rainfall has been 3 per cent above the Long Period Average even though the spatial and temporal distribution is still uneven.

Amid this, Indian banks face immense challenges in deposit mobilisation as they compete with other attractive options such as post office schemes. This has made the task of maintaining the Credit Deposit (CD) ratio within the guidelines a tall order. Every incremental deposit that the banks raise, a large part is going immediately into credit needs.

Banks are also severely constrained by the current wave of savers becoming investors in physical assets and capital markets, further reducing the inflow into the banking system.

Despite the squeeze, banks are expected to play a leading role in pushing the economic wheel forward, financing both private aspirations and public sector necessities.

For example, the government’s huge infrastructure pipeline envisages a key role for banks to finance and support downstream industries who would invest heavily in some of these programmes.

Ideally, this calls for a harmony between the government’s goals and RBI objectives vis-a-vis the banking system’s role in supporting them.

While we may appreciate the RBI’s constraints with regards to a cut in repo rates, the central bank should consider increasing availability of liquidity for the banks out of every rupee of deposit raised. This would help not only fund the huge infrastructure financing requirements but also alleviate the severe incremental deposit crunch faced by banks that can lead to systemic issues later.

For the moment, RBI would still wait for more clarity on food inflation trajectory and incremental global data to confirm the Fed actions.

While rate cut by RBI is some time away, the probability of change in stance has definitely increased.

The writer is Head of Wholesale Banking Group, Kotak Mahindra Bank. Views expressed are personal