By S. Sethuraman
The Reserve Bank of India’s Fourth Bi-Monthly Monetary Policy Statement on September 30 does not offer any hint of monetary easing in the near future, again citing risks to lowering at present the policy lending repo rate from 8 per cent it has maintained since April, in the current fiscal year.
This leaves all other policy rates and reserve ratios unchanged, (reverse repo, Bank Rate and Marginal Standing Facility at 7 and 9 and 9 per cent respectively). Reserve ratios continue as before, CRR at 4 per cent and SLR at 22 per cent of net demand and time liabilities.
However, the liquidity provided under the export credit refinance (ECR) facility is being reduced from 32 per cent of eligible export credit outstanding to 15 per cent with effect from October 10, 2014. The reduction is in pursuance of the Dr. Urjit R. Patel Committee’s recommendation to move away from sector-specific refinance but it would still give banks room for manoeuvre, RBI said.
While the Policy Statement does not come as any surprise, with all the too frequent negative signals that Governor Rajan has been giving for weeks on a rate cut, his latest Policy Statement runs counter to the wishes of both the Finance Ministry and the business sectors, the latter assuming perhaps even a baby cut in repo is all that is needed to give a boost to revival of investment and economic recovery.
This is quite apart from Government assertions on growth prospects already improving to hit 5.4 to 5.9 per cent in fiscal 2015 while a regime of lower interest rates would enable the economy to grow over 7 per cent in three years (even if not the 8 to 9 per cent as piously hoped earlier).
In defence of RBI policy stance, Governor Rajan says while headline inflation has ebbed to levels consistent with the desired near-term glide path of disinflation — 8 per cent by January 2015, along with crude prices softening and foreign exchange market relatively stable, there are risks from food price shocks as the full effects of the monsoon’s passage unfold, and from geo-political developments.
He also points out concerns about a sudden correction in financial markets if investors misread the timing of a reversal of the US accommodative monetary policy stance (earlier than the widely anticipated timing in mid-2015) or if geopolitical tensions intensify. A further slowdown in the Euro area is also adding to downside risks to growth of global economy.
So, what of the prospects for growth-inflation dynamics for the near future? For the near-term objective (8 per cent by January 2015) the risks around the baseline path of inflation are broadly balanced, with a slant to the downside
But, says Mr Rajan, the balance of risks to the medium-term objective (6 per cent by January 2016) is still to the upside, though somewhat lower than in the last policy statement of August 5.
“This continues to warrant policy preparedness to contain pressures if the risks materialise. Therefore, the future policy stance will be influenced by the Reserve Bank’s projections of inflation relative to the medium term objective (6 per cent by January 2016), while being contingent on incoming data”, the Governor said in the Policy Statement.
On growth outlook, Governor Rajan says the recent cautious optimism that is building in the economy on the back of improved business sentiment needs to be placed on solid foundations through a step-up in investment. In this context, the resumption of stalled projects should provide a boost to inventory and capex cycles, while reducing distressed bank loans and revitalising growth.
According to RBI, the momentum of activity in all sectors of the economy is yet to stabilize. Agriculture should shed the effects of deficient monsoon and pick up in Q4 of 2014-15. Industrial activity, which slumped in July after the upturn in Q1, would await improvement in the business environment and resumption of consumption and investment demand before gaining sustained speed.
Emphasising revival in investment activity as the key to a turnaround in the growth path of the economy in the second half of the year, RBI says investments are needed in greenfield as well as in stalled projects, “supported by fiscal consolidation, stronger export performance and sustained disinflation”.
With expectations of these conditions remaining broadly unchanged, the projection of growth for 2014-15 is retained at 5.5 per cent, within a range of 5 to 6 per cent around this central estimate. RBI sees the quarterly growth path slowing mildly in Q2 and Q3 before recovering in Q4.
Credit growth slowdown is more pronounced in public sector banks and it is not clear how much of this is due to bank balance sheet restructuring, repayments of stressed loans, or increased risk aversion. Going forward, as the investment cycle gathers momentum and overall demand picks up, RBI says banks will need to prepare to meet financing requirements as the credit cycle also turns.
In the context of reports of rise in corporate debt but also given the easy availability of foreign finance, RBI has cautioned corporations to be wary of being “lulled by relative exchange rate stability and neglect to hedge foreign exchange liabilities”.
On external account, RBI says the current account deficit may remain contained in the first half of fiscal year, after 1.7 per cent of GDP in Q1 of 2014-15. The improvement in the trade balance has benefited from the fall in the value of gold imports. Even as the external financing requirement stays moderate, all categories of capital flows remain buoyant. There has been an accretion to international reserves, even though reserves denominated in US dollars have moderated somewhat in recent weeks, largely because of the strength of the US dollar.