RBI votes for growth

The central bank is clearly not done yet on rate cuts

The Reserve Bank of India’s (RBI’s) Monetary Policy Committee has done exactly what the doctor ordered: It reduced the benchmark repo rate by 25 basis points for the third successive time in line with majority market expectations. And unlike the last two policy decisions, this one was unanimous, with all six MPC members voting for a cut in rates. The benchmark rate at 5.75 per cent is now the lowest in the last nine years. Thursday’s reduction in the repo rate underscores the theme: Growth impulses have weakened significantly and a sharp slowdown in investment activity, along with a continuing moderation in private consumption growth, is a matter of concern. RBI Governor Shaktikanta Das set the tone when he said at the post-policy press conference that the “decision is driven by growth concerns and inflation concerns, in that order”. The reason for the concern is obvious as economic growth has lost momentum, slowing for a fourth straight quarter, prompting the MPC to lower its growth projections to 7 per cent in the current fiscal year, down from an earlier forecast of 7.2 per cent. 

More than the rate cut, however, the markets were looking for the stance the MPC takes. There was cheer on that front too. By changing the stance from “neutral” to “accommodative” unanimously, the MPC sent a strong message on the shift in preference towards growth, as inflation indicators were likely to re­main within the targeted band. Going by Mr Das’ strong message that rate hi­kes are “off the table”, it is now clear that the RBI is not done yet on rate cuts.

While Mr Das and his colleagues at the MPC have ticked almost all the right boxes, the only disappointment is that the policy did little to address the concerns over weak transmission of interest rates. This, when the central bank has itself admitted that of the 50 basis points of easing in the first two rate actions this year, only 21 basis points have been passed on to new borrowers so far. A pick-up in the pace of monetary transmission would obviously be one of the key drivers in supporting even the revised growth estimates for the current year. In that context, the markets were clearly hoping for more than just a general assurance that adequate liquidity would be provided to the banking system. The announcement of an internal working group to review the liquidity management framework is welcome, but does little to shore up confidence in the short term at least.

Of course, the government needs to play an important role here. At the core of this mismatch between the RBI’s action and the banks’ inability to pass on the benefit to borrowers is their inability to cut deposit rates. That’s because banks compete for deposits with small savings schemes, which offer around a 7.7 per cent interest rate. There is considerable merit in the suggestions from many quarters that the small savings rates should be linked to the repo rate rather than the 10-year bonds. Another reason for the disappointment in the markets was the absence of specific announcements on the crisis faced by non-banking finance companies. Mr Das did not go beyond saying that the central bank would do whatever it took to ensure financial stability in the system. This is, however, a welcome approach as the central bank should not be seen to bail out a large number of companies which have been slipshod in implementing prudential norms or risk mitigation standards.