RBI reserves its firepower for now
By Anjan Roy
Reserve Bank’s monetary policy statement issued on Tuesday is more a document in anticipation of big developments than itself making one.
Reserve Bank has cut the statutory liquidity ratio (SLR) but has kept other parameters unchanged. It has given more emphasis on providing liquidity than on resetting the policy. It has stayed away from announcing any rate cut, which might have disappointed some, but the governor has clearly explained why he did it. He explained that since the last rate cut, just a fortnight back, there has been no fresh developments to warrant another.
What could have brought about a fresh cut? A change in the inflation numbers or a clear indication of the fiscal deficit trends showing “quality” deficit reduction. In fact, replying to some question, Governor Raghuram Rajan expressed a mild irritation that the question about a fresh rate cut was being raided again and again. The position is that until RBI is convinced that the first full budget of the new government is taking steps for a deficit reduction path, it would not be feasible for the central bank to bring down policy interest rates,
In fact, from this point of view whether the fiscal deficit target for the year at 4.1 per cent of GDP-was being achieved. What is important is that even if there is a slippage on that count, there is adequate demonstration of the will and a clear idea of deficit reduction over a medium term framework. That is important. Hence, the waiting is for the bug development – that is the union budget to be unveiled on February 28.
Additionally, the Reserve bank is fully aware of the fact that the last rate cut has not been transmitted. It takes time for monetary policy parameter changes to be transmitted down the line. However, the direction of RBI’s move -towards a lower interest regime – has taken hold on certain segments of the market. The call money rates are already going down in view of the fact that there is adequate liquidity in the system and RBI is further bolstering up liquidity through various instruments.
As for fresh information on inflation trends, the RBI is now awaiting the new inflation numbers. Inflation -Consumer Price Index-is being recast to make more accurate. These figures are due to be released towards the end of the month. Hence, the RBI is looking forward to these new CPI numbers before making any move. Of course, the new GDP numbers which have been released last week, showing a jump in GDP growth rate, would also have to be closely looked into.
That the RBI is not immediately taking these numbers on the face of it is clear from what the governor said in this context. He observed that it was exactly the impression that the Indian economy ws “rollicking” last year. To support his gut feeling he pointed out at the declining car production trends and described that as fairly “clean” figure.
But the RBI is somewhat worried about the prospects for the Indian economy going forward. RBI governor, as well as deputy governor, Urjit Patel, expressed concern about possible volatilities. They underlined the need for caution. Why? Urjit Patel was more expressive here. He referred to an African proverb that when two elephants fight, it is the grass which suffers.
Caught in the midst of “competitive devaluation” when major central banks were pushing huge amounts of fresh liquidity in the global financial system, there was always fear of run-offs. These liquidity infusions, or at times, sudden withdrawals, affect the financial markets and set off chain reactions. These have been seem earlier as well.
The sudden decision of the Swiss central bank to take the cap on Swiss franc’s exchange rate vis a vis the euro, caused a huge upsurge in Swiss franc. European central Bank has launched its massive 1 trillion euro quantitative easing. Bank of Japan has an on-going QE programme. The emerging market economies are caught in the middle of it all.
Notwithstanding these, India is better placed to meet with the eventualities. That is at least for four major macro-economic gains. First, India’s growth has not slowed drastically. Even at close to 6 per cent, India is growing second fastest among major economies. And if the latest GDP estimates are true, then India is growing almost as fast as China.
Secondly, India had suffered badly in May 2013 when Federal Reserve had for the first time disclosed its plans for tapering its bind purchase programme. India had a surging current account deficit then – some $88 billion uncovered gap. Since then, the situation has improved substantially and this year India’s CAD is estimated at just about 1.3% of GDP. This is expected to go down further in 2015-16 on the back of falling oil price.
Thirdly, India’s inflation fears are also looking somewhat contained. After all, wholesale price index is fairly low at around 2.5 per cent and in between it has fallen into negative territory. CPI, which is what the RBI looks at now, is also falling. Currently, it is showing lower path because of the falling vegetable prices. Even though it was seasonal, the lower oil prices should work out and help stabilise prices.
Fourthly, India’s fiscal deficit trends should also be comfortable going by present indications. While, revenue collections have not been unsatisfactory, the falling oil price should considerably help in curtailing the large fuel subsidy. Besides, direct benefit transfers should cut the overall burden of deficit. At any rate, the deficit picture should be clearer once the budget is presented.
As a comforting factor, the foreign exchange reserves have also gone up. Not that reserves could stem currency fluctuations, but these can be some measure of comfort in meeting external liabilities.
Hence, India is not at this moment particularly vulnerable to external volatilities they way it was two years back. One can hope that RBI would take a much more proactive and positive stance in its next round of reviews after the forthcoming union budget. (IPA Service)