The Reserve Bank of India (RBI) on Friday came out all guns blazing to arrest a potential slowdown caused by coronavirus (Covid-19), lowering the policy repo rate by 75 basis points to 4.4 per cent, and telling all banks and housing finance companies not to take instalments on term loans for three months.
“Given the COVID-19 stress, the six-member monetary policy committee (MPC) advanced their March 31-April 3 meetings to March 24, 26 and 27, and voted 4:2 to cut the policy repo rate to 4.4 per cent,” said Reserve Bank of India Governor Shaktikanta Das, who addressed the media through video streaming.
External members Chetan Ghate and Pami Dua voted for a 50-basis-point cut, while others, including Das, favoured 75 basis points.
Its stance was kept accommodative.
At the same time, the reverse repo rate, which is the rate at which banks keep their excess funds with the RBI, was lowered by 90 basis points, to “make it relatively unattractive for banks to passively deposit funds with the Reserve Bank and instead, to use these funds for on-lending to productive sectors of the economy”, the governor said.
Inflation vs growth
The central bank did not hazard a guess on the growth and inflation numbers, “given this heightened volatility, unprecedented uncertainty and extremely fluid state of affairs”. The annual growth estimate of 5 per cent for the year as a whole “is now at risk from the pandemic’s impact on the economy”, the RBI governor warned.
Projections of growth and inflation will be heavily contingent on the intensity, spread, and duration of COVID-19. Precisely for these reasons, the MPC refrained from giving specific growth and inflation numbers.
Food inflation will likely crash in the coming months, but “apart from the continuing resilience of agriculture and allied activities, most other sectors of the economy will be adversely impacted by the pandemic, depending upon … its intensity, spread and duration”, the governor said.
“The MPC is of the view that macroeconomic risks, both on the demand and supply sides, brought on by the pandemic could be severe. The need of the hour is to do whatever is necessary to shield the domestic economy from the pandemic,” Das said in his address.
“Banks and other financial institutions should do all they can to keep credit flowing to economic agents facing financial stress on account of the isolation that the virus has imposed,” while the markets should continue to function, and “strong fiscal measures are critical to deal with the situation”, the RBI governor said.
The policy decisions taken in the out-of-turn monetary policy committee (MPC) meeting “has been warranted by the destructive force of the coronavirus. It is intended to (a) mitigate the negative effects of the virus; (b) revive growth; and above all, (c) preserve financial stability”, the RBI governor said.
Apart from the rate cuts, there were also series of measures to meet liquidity, and credit need of the economy. This included letting the common man not pay his equated monthly installments (EMI) for three months in cases of long term loans.
While bankers decided on a rate cut, State Bank of India Chairman Rajnish Kumar said in a call with the media that his banks won’t ask for installments on term loans for three months.
“Instalments will get automatically deferred by three months for term loans and customers don't have to apply to banks for it,” Kumar said in the call, adding, banks can formulate own policies on new loans “keeping borrowers’ repayment capacity into account”.
In the absence of a healthy credit pickup, banks have been parking close to Rs 3 trillion on a daily average basis under the reverse repo.
The RBI termed the present time as “an extraordinary and unprecedented situation,” in which everything hinges on the depth of the COVID-19 outbreak, its spread and its duration.
“Clearly, a war effort has to be mounted and is being mounted to combat the virus, involving both conventional and unconventional measures in continuous battle-ready mode.”
“Life in the time of COVID-19 has been one of unprecedented loss and isolation. Yet, it is worthwhile to remember that tough times never last; only tough people and tough institutions do,” the RBI governor said.
The bond market was more than surprised by the RBI move. Bond yields rallied by 30-35 bps on the short end, and 15 bps on the long end after the announcement.
“Given abundant banking sector liquidity, the reverse repo rate could become the more effective one, and as such, the de-facto easing was more than 75 bps, perhaps between 75 bps and 115 bps,” wrote HSBC India Chief Economist Pranjul Bhandari and Economist Aayushi Chaudhary in a note.
Standard Chartered Chief Cconomist Anubhuti Sahay termed the RBI move as “whatever is necessary” measure, even as the RBI could finance fiscal deficit slippage by conducting large-scale OMO purchases of government bonds, given the severity of the current situation.
The RBI told all banks, financial Institutions, and non-banking finance companies, including housing finance companies as well as micro-finance firms to “allow a moratorium of three months on payment of instalments in respect of all term loans outstanding as on March 1, 2020.” This is applicable for all term loans, including agricultural term loans, retail and crop loans.
This will not impact the credit history of the customers as banks will not treat it as default while reporting to the credit information companies (CIC), the RBI governor assured.
Similarly, in case of working capital loans of companies, companies need not pay interest in respect of all such facilities outstanding as on March 1.
In all cases, “interest shall continue to accrue on the outstanding portion of the term loans during the moratorium period,” the RBI said in a separate circular.
"This is sigh of relief for the companies and as an immediate effect is very useful. While they may not have got the desired quantum of relief through this announcement, the non-grant of such a relief could have proved to be fatal,” said Abhishek Rastogi, partner, Khaitan & Co.
The RBI pumped in Rs 3.74 trillion of additional liquidity in the banking system through various policy measures. Taken with the recent liquidity measures, the liquidity infusion is an unprecedented Rs 6.5 trillion, or about 3.2 per cent of gross domestic product (GDP) of the economy.
To start with, the central bank said it will conduct auctions of targeted term repos of up to three years’ tenor for a total amount of up to Rs 1 trillion.
“Liquidity availed under the scheme by banks has to be deployed in investment grade corporate bonds, commercial paper and non-convertible debentures over and above the outstanding level of their investments in these bonds as on March 25, 2020,” the RBI governor said. The eligible instruments include all kinds corporate bonds, including from mutual funds and NBFCs. RBI said investments made under this scheme will be over and above permitted to be invested, and gave leeway in the way they are categorised.
The corporate bond yields crashed by about 150 basis points after this announcement.
Even as liquidity was ample in the system, it was highly asymmetrical, the RBI said. Therefore, the central bank reduced the cash reserve ratio (CRR) to 3 per cent of the deposit base, from 4 per cent earlier. This measure will pump in liquidity of about Rs 1.37 trillion uniformly across the banking system. The requirement of minimum daily CRR balance maintenance was also reduced from 90 per cent to 80 per cent, as a one-time measure till June 26.
Even after these measures, if a bank needs to borrow from the central bank, it can do so up to 3 per cent (from 2 per cent earlier) of its statutory liquidity ratio (SLR) at 4.65 per cent, from 5.4 per cent earlier under its emergency window called marginal standing facility (MSF). The MSF rate is calculated at 25 basis points above repo rate.
The RBI hoped that the extra borrowing facility will add an additional Rs 1.37 trillion in the banking system “in times of stress” at a reduced rate.
In a move that will have far reaching implications for the currency markets, the central bank said it will allow foreign branches of domestic banks to trade in the offshore non-deliverable forwards (NDF) markets in order to “improve efficiency of price discovery.”
In reality, it may mean that the central bank will now intervene in the NDF market to control the exchange signal, even as the RBI is never expressed in its interventions. The central bank does the intervention through a clutch of nationalized banks. Now it can have its influence even in the overseas, unregulated markets that operate from Dubai, New York, Singapore and Hong Kong.