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Business News/ Opinion / Views/  Opinion | Merely reducing interest rates won’t do, we need monetary transmission

Opinion | Merely reducing interest rates won’t do, we need monetary transmission

If enough transmission isn’t there, we won’t benefit from better rates on loans


Every alternate month, the RBI meets to decide what course monetary policy should take. For most of us, this event passes without notice. But, taking a closer look at monetary policy could help us make smarter choices about the investments we make, the expectations we have, and the loans we may take.

Monetary policy can be broken up into two parts—the stance and the interest rate. The RBI has clearly moved from a neutral stance to an accommodative one. In common terms, an accommodative stance means we’re moving into a state where the RBI is likely to put in more money in the economy and make borrowing more attractive. The intent is to boost growth within the economy. This is done by allowing interest rates to trend lower. When interest rates are low, the interest paid on loans and the interest earned from deposits decrease.

So for those looking to borrow money, things could be looking up. Who actually needs money at this point? The government for sure is going to be a borrower. The RBI has created an environment that supports growth; it is the government’s prerogative to come up with policies that make the best use of this environment. This will be evidenced by what comes in its budget next month. But any one of us may be considering growing our businesses, buying a car, or owning a house. Financing these aspirations through loans is becoming more attractive.

Those of us who are savers need to be more vigilant. Returns from fixed deposits, debt funds, and may be even savings bank accounts could start falling. One must be prepared to move into different avenues where returns are in line with expectations.

Now that the RBI has acknowledged that a mere reduction of interest rates isn’t going to fix the economy, what really needs to happen is monetary transmission. Transmission means that the effect of the RBI’s actions aren’t limited to the banking universe, but cascade into our daily lives. If there isn’t enough transmission, you and I would never benefit from better interest rates on our loans. The RBI has committed to faster transmission. So, we could see loans becoming cheaper two months down the line.

Another pressing concern that policy addresses is liquidity. Liquidity refers to money in the economy. With more liquidity, the government could create infrastructure, businesses could grow, and we could consume more. If there’s too much money in the economy, we might see a phase where inflation picks up—making even day to day goods and services very expensive. The central bank has committed to keep an eye on liquidity and has already infused money through open market operations in May and swap auctions in April. It is also committed to stretching and pushing more money into the economy if required.

One of the responsibilities of the RBI is to keep inflation under control. A small amount is indicative of a healthy economy, whereas too much becomes harmful. We start worrying about inflation when maintaining our standard of living becomes more expensive. The RBI is quite confident of managing inflation expectations and estimates are within the band in its mandate.

Growth is the last pillar of monetary policy. Globally, we are noticing that many economies are not able to keep pace. Several central banks across the globe have moved to more accommodative policies. So it would make sense to keep tabs on global cues. Growth will be fuelled by better reforms and policies that are to be outlined in the government’s budget. It will also be guided by wiser allocation of loans by banks and NBFCs.

For now, there is some clarity that inflation won’t play spoil sport and that loans will get cheaper. We certainly have to review our investment strategy when our deposits mature. With the RBI’s growth expectations moderating, the equity earnings downgrades may also be on the cards. As citizens, it’s important that we make the best use of monetary policy decisions.

Shyam Sekhar is chief ideator and founder, iThought

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Published: 06 Jun 2019, 11:57 PM IST
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