Opinion | When credit should get cheaper but refuses to

The Reserve Bank of India (RBI) has broadly stuck to expected lines in delivering the third successive quarter-percentage point cut of its repurchase rate. With inflation benign and all macroeconomic measures pointing to a deepening slowdown, cheaper access to money for banks was only to be expected. A slight surprise is the shift of RBI’s policy stance, which has been loosened from “neutral” to “accommodative”. This |signals an emphasis on encouraging growth over containing retail prices; it also raises the chances of further rate cuts to come. Till February, the central bank had been in “calibrated tightening” mode, which it adopted last October. That it should turn its disposition around so sharply within the span of a few months is a bit perplexing, particularly because its growth forecast of 7% for 2019-20 still suggests a modestly healthy pace of economic expansion. It’s possible that RBI is overestimating India’s growth, overreacting to worries over a downturn, or simply giving up a post-2015 anxiety of inflation overshooting its target.

Of bigger concern, though, is the lack of any significant measure to smoothen the transmission of its rate reductions to cheaper loans for businesses and individuals. According to the central bank’s own analysis, the weighted average lending rate of banks came down by just 21 basis points over the period that it slashed its repo rate by 50 basis points (from February till Thursday). The bond market’s yield curve, which depicts the difference between overnight and longer term interest rates, remains rather steep and needs to flatten a little for credit conditions to ease. There are also fears that liquidity shortfalls in the cash-starved non-banking financial company (NBFC) sector may persist, even though RBI Governor Shaktikanta Das has assured markets that the central bank would take whatever steps are needed as the situation evolves. Bond buybacks and currency swaps have been tried in the recent past. This time, a cut in the cash reserve ratio of banks would not have been a bad idea. It could have aided transmission and kept the repo rate from looking like the blunt instrument it sometimes does.

Monetary policy, of course, does not operate in isolation of what the government does. Much depends on the Budget to be presented by finance minister Nirmala Sitharaman in early July. She could either stick to the so-called “glide path” of fiscal consolidation under the Fiscal Responsibility and Budget Management Act, or cite exceptional circumstances to loosen State expenditure in a quest for growth and job generation. These are the government’s two main concerns, as evident from Prime Minister Narendra Modi’s decision to establish two cabinet committees on the same. Since tax revenues have fallen behind and infrastructure is expected to get a large budgetary outlay, some fiscal loosening may be on the cards. That, however, would risk reviving inflationary impulses, especially if the monsoon rainfall this year is weak. It’s also likely to keep yields in the debt market higher at the long-end than they would otherwise be, keeping overall credit expensive. A combined monetary and fiscal “stimulus” might seem tempting at this juncture, but unless India’s productive capacity also expands, the economy could be left worse off. It might be prudent for RBI to pause and watch before going in for further rate cuts.