October 31, 2012

bravo, rbi

The central bank and banking regulator of India, Reserve Bank of India, came out with its FY 2012-13 (April 2012 to March 2013) quarter review of monetary policy.I contributed an editorial on the RBI review for the newspaper I work for.

Here is what I wrote:

Bravo, RBI

By maintaining status quo on policy rates RBI has rightly looked at long-term benefits for the economy

In the prevailing atmosphere over the last many months the government, mostly through its finance ministry, has been able to successfully bulldoze its way in several areas of the Indian economy and financial system in order to prove a point or two to its detractors in the domestic industry and vested international circles that there is no economic policy paralysis in the country. From speeding up policy initiatives such as foreign direct investment to prodding financial sector regulators such as Securities and Exchange Board of India and Insurance Regulatory Development Authority to accede to demands made by the mutual fund industry and the insurance industry, the government has been able to get what it wanted. 

What stands out, and we are glad it does so, is that enormous pressure being put on the Reserve Bank of India by the finance ministry in recent weeks to cut policy rates did not bear fruit on Tuesday when RBI announced its FY13 second quarter review of monetary policy. It maintained status quo on the repo rate retaining it at 8 per cent level but cut cash reserve ratio by 25 basis points from 4.50 per cent to 4.25 per cent. 

The RBI governor, D Subbarao, while appreciating the downside risks to domestic growth from further deterioration in global macroecnomic conditions, was emphatic that the monetary policy had to focus on doing its bit to reign in the un-relenting high inflation levels which RBI has no doubt is not conducive for investment climate and consumer confidence without which no high growth can be had in the medium-term.

Despite the fact the CRR cut will enhance liquidity in the banking system by upto Rs 17,500 crore and the CRR has been bought down sharply by RBI from the 6 per cent level of last year, the finance minister expressed his disappointment at the lack of a repo rate cut. Such un-fettered expectations of the government from the banking regulator does not augur well for the independence. It is understandable for the industry associations to demand the lowest interest rates on the bank borrowings by their member companies but the same demand made subtly but surely by the government does not jell.
The government has itself done hardly much on the real macro-economic problems of high fiscal deficit and high current account deficit. Raising diesel prices by a meagre Rs 5 and putting a cap on subsidised domestic cooking gas cylinders will hardly make a dent in the rising fiscal deficit. These measures too came belatedly after all earlier political compulsions arising from state elections and presidential elections had expired. 

A fiscal roadmap laid out by the finance minister on Monday is welcome but without detailed plan of action on individual subsidy items it is only a promise and meaningless at that since the approaching 2014 general elections will soon give re-birth to political compulsions. Moreover, an actual implementation of the fiscal measures will translate into short-term pain of higher inflation as prices will be tuned to market forces. 

The RBI has, therefore, done right by not cutting the repo rates at this juncture. Capital investment by corporate borrowers will surely if rates are cut and lead to better economic growth but it will, if inflation does not subside, diminish the inflation-adjusted real rate of return for savers. 

India has perhaps the highest number of savers in the world and this fact should not be under-appreciated. It is not wise to assume that the long-term worst-case scenario of severe fallout from a very high fiscal deficit can be reasonably averted if economic recovery happens in the short-term by through low lending rates

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