Decoding RBI’s Monetary Policy Response

Immediately after the announcement of the Finance Ministry’s rescue plan in the form of an economic stimulus package, RBI has responded to the unprecedented economic crisis situation caused due to Corona outbreak. RBI, with a clear intent to be accommodative in this catastrophic situation, has shown flexibility in its action plan to support the fiscal management in the country. 

One of the stark realities admitted by RBI is about the GDP growth rate in India which is expected to be in the negative territory (below zero) in the current financial year and its revival is expected from next financial year if the growth impulses remain intact. Amongst all, the major decisions taken up by MPC and RBI are about the reduction in policy repo rate by 40 bps that is slashing repo rate to 4.0%, reverse repo to 3.35% and Marginal Standing Facility (MSF) rate to 4.25% from 4.65%. It is noticeable that RBI has called for an emergency meeting of MPC members to review the domestic situation which was supposed to be taking place during 3rd to 5th June 2020. 

With such a flexible approach, RBI has come up with an action plan which rests on two important policy objectives, first, keeping inflation level under control and second, providing sufficient liquidity to the markets. To serve these objectives, it is obvious that the central bank has followed the expansionary stance and reduced the important policy rates significantly which in turn will ease out the tightened liquidity conditions in the market. Secondly, with various developmental and regulatory measures, the bank intends to soften the institutional and individual level problems such as paying EMIs or interest payments. 

Loan moratorium has been a very effective and direct way to address the solvency issues of the borrowers that have been deployed by RBI well in time. In the current policy statement, RBI has extended the moratorium period for another 3 months in addition to the last 3 months relaxation. However, the actual impact of the moratorium on people’s loan repayment depends on individual lenders and their conditionalities. Many of the lenders such as LIC Housing Finance Ltd. have allowed the borrowers to access the moratorium but with a condition of paying interest of this relaxation period later, which will add to people’s debt stress. 

Although the policy statement states that the lending rate transmission channel is strengthening in our banking system, it should be noted that the extent of such transmission is limited to few secure and risk-free investment-related instruments such as T-bills, CDs and so on. The scope of this transmission needs to percolate in various types of lending instruments of banks and NBFCs for a sizeable impact. 

Other measures like, special refinancing facility to SIDBI, NABARD and NHB, liquidity facility to EXIM bank, easing of working capital financing requirements and raising the Ways and Means advance limits of States by 60% and enhancing the Overdraft duration limits are in tandem with Atmnirbhar Bharat package of the central government. 

On the inflation front, RBI makes it clear that given the highly uncertain situation, it is not possible to predict the inflation accurately. Food inflation which was moderate during January to March has suddenly hiked to 8.6% in April with some pressure points such as supply disruption, demand compression and increasing prices of vegetables, pulses, cereals and milk. Due to the lockdown and restricted access to goods and services private consumption expenditure has drastically gone down which is fuelled by reverse migration of workers, increasing unemployment and deteriorating purchasing power of the consumers.

However, a record-high increase in agriculture production by 3.7% has been a ray hope in this gloomy period along with a forecast of a normal monsoon in 2020. Sufficient Khaif sowing and Rabi procurement will play an important role in easing out the inflation situation and ensuring food security in the country. It will also assure satisfactory farm income and improve terms of trade facing the agriculture sector. 

It is important to note that in this difficult situation it may not be possible for RBI to follow the inflation targeting since the dramatic movements in demand and supply are difficult to gauge at present. In addition to that, RBI is not in a position to influence the supply side factors as it falls outside the purview of its policy measures. So, it calls for fiscal measures again to improve supply chain management in the economy. RBI has taken care of demand-side factors by easing out policy rates and ensuring sufficient liquidity in the markets.    

The policy intention of the central bank illustrates its proactive attitude and the sense of responsibility towards the nation. However, it is really important to pay attention to the word of caution that the policy statement of RBI puts forward that ‘it is expected that the combination of fiscal, monetary and administrative measures being currently undertaken to create conditions for a gradual revival in economic activity in the second half of 2020-21’. For creating a better tomorrow, RBI has come up with a pragmatic path that needs to be followed. 

_{Prof. Aparna Kulkarni is a faculty at St. Xavier’s College, Mumbai.}