Statsguru: Ball in the fiscal court as RBI keeps lending rates unchanged

The Reserve Bank of India’s (RBI’s) Monetary Policy Committee (MPC) decided to keep the policy repo rate unchanged in its December 2019 meeting, surprising the market. The MPC underlined the rising consumer price inflation as one of the reasons. In October, food prices rose as fast as 10.5 per cent in cities and by 6.4 per cent in rural areas (Chart 1).

While financial markets were hoping for a rate cut, the MPC signalled that it intends to wait until effective transmission happens. The real lending rate — deflated using headline inflation — has reduced by nearly 3 percentage points in less than a year (Chart 2), during the rate cut cycle.

More so, a central bank’s survey highlighted that consumers are perceiving the current situation on jobs and incomes as the worst since 2012 (Chart 3). In fact, the perception of income has turned negative for the first time this year.

The slowdown is affecting government’s revenues as well. Gross tax revenue of the central government is rising at a slower than desired pace. (Chart 4).

Though the Union government is on a fiscal glide path, it has missed its own targets in the last few years (Chart 5). If it decides to give a fiscal boost to counter the slowdown, it could come in the form of increased spending on either employment, or income-oriented schemes, or on capex (Chart 6).

India's fiscal scenario

• Rs 205 trillion India's nominal GDP*
• Rs 7.04 trillionFiscal deficit**
• 3.43 FD as % of GDP
• Rs 20,500 crore 0.1% of GDP

*Assuming nominal growth at 8 per cent for FY20; 

** Budget estimate

If that happens, the impact would depend on the strength of the fiscal expansion. For example, expanding the fiscal deficit to as high as 4 per cent of the gross domestic product would give the government an additional Rs 1.17 trillion (Chart 7), though it would impact borrowings.