RBI Governor Raghuram Rajan preferred to wait for cues on the fiscal deficit in the upcoming Budget and the evolving inflation trajectory, before further loosening the monetary policy.
Even as the repo rate (the interest rate at which the central bank lends to banks to help them overcome short-term liquidity mismatches) was left unchanged at 6.75 per cent – a stance that was expected – Rajan emphasised that the RBI continues to be “accommodative”.
Rajan said the RBI is working with the Centre and banks to ensure that stressed assets are recognised proactively and are adequately provisioned, and that the banks’ balance sheets reflect a true and fair picture. “It is important to note that provisioning prepares banks for a possible loan loss, but if the loss doesn’t materialise, it can be written back to profits,” he added.
The RBI is also monitoring the debt recovery process to make it more effective. Following consultations with banks and NBFCs, the central bank will shortly issue instructions for further fine-tuning the Joint Lenders’ Forum (which undertakes corrective action plan for stressed assets) and strategic debt restructuring (the provision to convert debt into equity) processes.
Moving off cycle?
There is speculation in the market that the RBI may pare the repo rate off-cycle, provided the Budget shows that the fiscal deficit for the year is 3.9 per cent of GDP and the projection for FY17 lower at 3.5 per cent.
Further, if the RBI’s 6 per cent retail inflation target for January 2016 is met (as the RBI expects it to be), it will provide more room for the central bank to cut rates.
The RBI, in a front-loaded policy action, had slashed the repo rate by 50 basis points from 7.25 per cent to 6.75 per cent in its fourth bi-monthly monetary policy review in September 2015.
To a question on whether the policy was a bit hawkish, the RBI chief explained, “Broadly, I don’t think it’s fair to read that we have become more hawkish over time. I think, broadly speaking, the positives are balanced by the negatives…”
“There has been some movement downward in oil prices…there are some risks which could also pull inflation down, such as a good monsoon next year. Of course, there is a lot of speculation on whether after two bad monsoons, you are almost sure to get a good monsoon. I leave that to the meteorologists to figure out.”
Under the assumption of a normal monsoon and at the current level of international crude oil prices and exchange rates, the RBI expects inflation to be inertial and hover around 5 per cent by the end of the next fiscal.
However, the Governor cautioned that the implementation of the Seventh Pay Commission recommendations, which has not been factored into the inflation projections for FY17, will impart upward momentum to this trajectory for a period of one to two years. The Reserve Bank will adjust the inflation forecast when more clarity emerges on the timing of the implementation.
“The Reserve Bank continues to be accommodative even as it leaves the policy rate unchanged in this review, while awaiting further data on the development of inflation. Structural reforms in the forthcoming Union Budget that boost growth while controlling spending will create more space for monetary policy to support growth, while also ensuring that inflation remains on the projected path of 5 per cent by the end of 2016-17,” said Rajan.
The Governor observed that the current momentum of growth was reasonable, though lower than what should be expected over the medium term. The RBI kept growth in gross value added (GVA) terms unchanged at 7.4 per cent with a downside bias. However, GVA growth for 2016-17 has been projected higher at 7.6 per cent.
“The Indian economy is currently being viewed as a beacon of stability because of the steady disinflation, a modest current account deficit and commitment to fiscal rectitude. This needs to be maintained so that the foundations of stable and sustainable growth are strengthened,” said Rajan.
Liquidity conditions tightened in the second half of December with advance tax outflows. Tightness spilled over into January 2016 on the back of a seasonal pick-up in demand for currency, restrained spending by the government and a pick-up in bank credit growth, in relation to deposit mobilisation.
When the issue flagged, Deputy Governor Urjit Patel said, “Liquidity management has been adequate and we stand ready to do more. In fact, it is likely to happen as we near the fiscal year and there is some window-dressing by banks, etc…”