Uncompetitive Indian firms can no longer point a finger at the cost of capital. That excuse is gone. Thanks to some spectacular action by the Reserve Bank of India (RBI) over the past few years, Indian businesses now have access to funds at bargain real rates of interest.

The trouble is that low interest rates do not come at the wave of a magic wand or from the mysterious recesses of a magician's hat. They require the RBI to do some very hard thinking about the state of the economy and the costs involved in any further cut. So it is no big surprise that the new RBI Governor, Dr Y.V. Reddy, has chosen to maintain the Bank Rate-the economy's main benchmark-at 6 per cent while making his mid-term Credit and Monetary Policy statement. With the economy on a recovery path and demand indicators buoyant, steadiness is what good sense would have demanded.

The question, actually, is one of how long the rate can be held down. This, despite the fact that Reddy-perhaps to pacify the galleries baying for a cut-has reiterated that the "soft bias" in the interest rate structure will continue for the time being. Of course, a 'bias' means just that-a bias. So if operating conditions change in a way that might warrant a rate rise, keeping it steady would still be a soft bias.

If a future rate cut is a likelihood at all, it is largely because of the continuing aRBItrage opportunity that NRIs seem to be taking on account of the difference between a dollar and rupee interest rates, coupled with the phenomenon of a weakening dollar (the RBI, by the way, has already taken some measures against this). But the most relevant piece of information here is the state of fund inflows: these, of various kinds, have been abnormally strong, of late.

On the whole, and in the medium-term, expect regular domestic economics to play the main part in determining rates. Credit offtake, remember, has been low these past years. Businesses have been restructuring themselves furiously, and have been avoiding bank loans like the plague. However, squeezing more productivity out of the same assets cannot go on forever, and if demand is really making a comeback, expect a wave of capacity additions-and a throng of loan-seekers. The banks have been notoriously risk-averse, but a business revival could alter that, pushing rates up once again. The booming capital market (and corporates getting IPO-active once again) can be taken as a sign of things to come.

Other than that, there are a few other reasons that interest rates may have bottomed out. All manner of contractual savings instruments-such as RBI Relief Bonds-offer higher rates, and the system would go into serious imbalance if real interest rates were to fall much further. Then there's the yield curve conundrum. Mostly, rates on short-period loans command lower rates than long loans. But in India at the moment, the call money rate (for one day) is close to the 10-year Government bond yields.

Other anomalies? The low interest rate regime has not reached everybody. Try telling a credit card user about the low rates, for example, and watch him fume. Even the RBI admits that "While lending rates for prime corporates and activities like housing have declined significantly, noticeable reduction is yet to take place in regard to other segments".

The biggest reason to fear for the future of the soft bias, however, is a dreaded nine-letter word: inflation. Loose money is not what you typically get as elections near. Inflation is already in the range of 5 per cent, threatening to turn the real interest negative-which is okay as a blip, but quite obviously dangerous as a policy.