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Opinion | Review measures signal a transition from the survival to revival phase

RBI will need to communicate an exit strategy from the current high surplus level

The policy response to the covid-19 crisis has been a coordinated set of monetary and fiscal stimulus measures designed around a “Survive, Revive and Thrive" framework. The first phase, following the April shutdown, largely focused on alleviating the distress from loss of incomes of farmers, workers and corporations —particularly micros,small and medium enterprises (MSMEs). The Reserve Bank of India’s (RBI’s) measures—moratoriums, refinancing support, regulatory forbearance, etc —have substantially succeeded in the intent. The measures at Thursday’s review signal a shift towards the revival phase, with inter alia (a) the absence of an extension for the earlier moratorium beyond August and (b) providing a window for lenders for resolution plan for borrowers without classifying them as non-performing assets (NPAs). For the first time, this resolution plan also includes personal loans.

The Monetary Policy Committee (MPC), in line with our view, voted unanimously to keep the repo rate on hold at 4%, citing the importance of judicious use of policy tools. As expected, the forward guidance has remained very strong, with assurance of space available for “further monetary policy actions" (including repo rate cuts), to “continue with the accommodative stance of monetary policy as long as necessary to revive growth".

Also, probably for the first time, RBI’s open market purchases are stated as reducing funding costs for private sector entities, probably the closest the central bank could come within the limits of its statutory restrictions, to signal (indirect) support to private credit.

The MPC surely faces trade-offs in multiple decision inputs. The first, obviously, is the need to revive growth in the face of persistently sticky inflation. Acknowledging the (optics of) persisting high inflation, particularly at this last meeting of the present MPC panel, must have been a factor in the rate decision.

Growth recovery, however, remains the dominant concern. Uncertainty about public health responses, low confidence, weak private sector capex and stretched balance sheets inhibiting further demand for credit, will likely result in a prolonged recovery.

The second trade-off for RBI involves instruments and methods to infuse funds into the system, both through support for the government’s spending (and borrowing programme) and for credit offtake through lending intermediaries and financial markets. As a result of RBI incentives and large liquidity infusion, as well as fiscal backstops, transmission to lending rates has been quite fast and efficient. Short tenor borrowings via commercial paper and corporate bonds have often been nearer the reverse repo rate than the repo. The weighted average lending rate (WALR) for new bank loans had fallen from 9.26% in February by 162 basis points in June (the repo rate had been cut from 5.15% in February 2020 to 4% in this period).

However, rate cuts have mostly run their course, and efforts to increase credit flows will form the core of next policy steps. While lending under the Emergency Credit Line Guarantee (ECLG) Scheme have been quite encouraging, overall credit growth and offtake remains modest.

Relaxations in prudential norms are more conservative, reflecting the trade-off between encouraging credit offtake while still maintaining risk underwriting standards, maintaining credit discipline and minimizing moral hazard.

Going forward, over the course of the next year, or maybe ever sooner, RBI will need to calibrate liquidity and communicate an exit strategy from the current high surplus level. This will be a difficult exercise, while preventing undue market volatility, given our expectations of additions to the surplus from large external flows and likely further RBI support to the government’s borrowing programme.

Saugata bhattacharya is executive vice-president (business and economic research) at Axis Bank

Views expressed are personal.

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