Written by Deepthi Mary Mathew
The RBI (Reserve Bank of India) governor in a surprise press conference announced a slew of measures to boost liquidity in the market. On the wake of COVID-19 (coronavirus), Central Banks across the globe has turned dovish and announced various measures including Quantitative Easing (QE) to prevent the global economy from slipping to a recession. In this background, it was expected that RBI would also follow a similar suit adopting a path of easy monetary policy.
The MPC refrained from giving GDP and inflation projections, in fact, a welcome decision, as the outlook for the economy is highly uncertain. MPC expects food inflation to cool off in the coming months with the beneficial effects of record food grain and horticulture productions. The low crude oil price also brings in some relief. However, one should also look into how food inflation numbers turns out in the coming months. In the present scenario, amid the supply chain disruption, there are chances that the food prices would spiral up. Currently, the impact is reflected in the prices of fruits and vegetables in major cities.
Coming to the liquidity boosting measures, MPC has cut the repo rate, reverse repo rate and CRR. Though a rate cut from RBI was expected, it could be said that the RBI has gone beyond market expectation by announcing 75 bps cut in repo rate, 90 bps cut in reverse repo rate and 100 bps cut in CRR. However, the question at this juncture is whether monetary stimulus measures through rate cuts will be effective? The shutdown of schools, colleges, businesses, restrictions on travel and trade, social distancing and closure of borders signifies that the economic activities are taking a back seat. In such a scenario, the availability of low-cost credit will not encourage people to take up travel or engage in economic activities.
For instance, RBI has cut the interest rates by 135 bps in 2019, and yet the monetary stimulus was found to be ineffective. Credit growth in the economy for the current fiscal year slowed down to 7.1 per cent (as of January’20) from 14.5 per cent a year ago. The responsiveness of monetary policy measures was limited as the economy is still struggling with the economic slowdown. Thus, considering the weak sentiments in the economy, the effectiveness of the liquidity boosting measures will be also limited.
Even when the Fed has cut the interest rate to a near-zero per cent, it failed to cheer the market as the fears of the pandemic overshadowed it. By cutting the interest to a near-zero per cent, the Fed has exhausted interest rate mechanism when its effectiveness is limited on the economy. Though RBI’s position is not similar to that of other Central banks, RBI should not be short of instruments when needed to stimulate the economy. Governor has also hinted about using unconventional instruments if needed. The global economy is still struggling to return to a normal path of monetary policy from the negative interest rates and QE programmes that were unleashed during the Global Financial crisis. Thus, RBI should be cautious in using unconventional monetary policy instruments.
Amid the lockdown, the three-month moratorium on loans is a welcome step and brings in great relief to the individuals and businesses. However, it could negatively impact the lending by banks and their profitability. The measures announced were considered to be RBI’s bazooka to lift the economy from the current crisis. Yet, it’s effectiveness and positive impact on the economy need to be watched out.
The author is the Economist at Geojit Financial Services. Views expressed are the author’s.