Rajan keeps India rates steady, ready to pass policy baton to panel

By Suvashree Choudhury and Rafael Nam

MUMBAI (Reuters) - Conducting his last policy review on Tuesday as head India's central bank, Raghuram Rajan kept key interest rates unchanged to cool inflation running near two year highs, while urging the government to form a panel for the next review in October.

The much admired former International Monetary Fund chief economist is due to step down as RBI governor on Sept. 4 after a three-year term to return to academia and family living in the United States.

Prime Minister Narendra Modi's government has still to pick a successor, but Rajan said he hoped a monetary policy committee (MPC)would be introduced in time to help whoever takes over conduct the next review on Oct. 4.

The decision to hold the repo rate at 6.50 percent had been widely expected after consumer inflation accelerated to 5.77 percent in June, near the top of the Reserve Bank of India's 2-6 percent range, and above its target of 5 percent by March next year.

"It is appropriate for the Reserve Bank to keep the policy repo rate unchanged at this juncture, while awaiting space for policy action," RBI Governor Rajan said in his statement.

His successor will need to follow through on efforts to clean up bad loans hobbling Indian banks, so that they can finance the investment needed if India is to hold onto its place as one of the world's fastest growing major economies.

During his time at the RBI, Rajan steered India out of its worst currency crisis in two decades and, helped by tumbling oil and commodity prices, succeeded in halving inflation from double-digit levels prevailing when he took over at the bank.

"We managed to move the needle forward a little bit," Rajan told reporters, as he looked back warmly on his time at the RBI.

CHANGING DECISION-MAKING

Rajan's surprise decision not to make himself available for an second term had raised speculation that some of his speeches had upset Modi's nationalist government. But, Rajan told reporters those speeches had never criticized the government.

Rajan had championed the introduction of an MPC, so that future rate decisions would no longer be left to the discretion of RBI governors.

The government last week formally adopted Rajan's consumer price inflation target of 4 percent with a plus or minus 2 percent band, having convinced the government that it will anchor policy in a country with a history of volatile prices.

Rajan expressed confidence that it meant the government would not relax the fight against inflation.

A senior government official told Reuters last week that candidates are being shortlisted for the six-member MPC, made up of three members from the RBI and three chosen by government..

"ACCOMMODATIVE STANCE"

Rajan said the RBI's policy stance should remain "accommodative".

Better than average rainfall in India's ongoing monsoon season is expected to reduce the upward pressure on food prices.

But Rajan expected "upside" risks to his March inflation target, citing a hike this year in the salaries of millions of government employees and sticky core inflation.

Rajan has lowered rates by 150 bps since January last year to their lowest in more than five years, but economists doubt whether the current easing cycle has much further to run.

Most expect the next RBI governor to provide another 25 bps cut in the policy rate by the end of the year, before holding steady through 2017.

"To instigate more consumption and good credit growth, you could have RBI cutting at least once before the year end," said Sanjeev Bhasin, an executive vice president in markets for India Infoline.

(Additional reporting by Swati Bhat, Abhirup Roy, and Devidutta Tripathy in MUMBAI; Neha Dasgupta in NEW DELHI; and Aastha Agnihotri in BENGALURU; Editing by Simon Cameron-Moore)

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