Rate cut window closed for present

Rajan continues to be disturbed with the banks for not passing on the benefit of rate cuts to the borrowers.

Reserve Bank of India Governor Raghuram Rajan maintaining status quo on the policy rates was expected. The RBI kept its repo rate (the rate at which the banks borrow from RBI) unchanged at 6.5%, reverse repo  (the rate at which RBI borrows from banks) at 6% and the cash reserve ratio (CRR) (share of deposits which banks must park with RBI), which does not earn any interest, intact at 4%. Reduction in these rates would have injected liquidity into the banking system.

The governor has put an end to the rate cut  party in spite of 7.6% growth in the Gross Domestic Product (GDP) for 2015-16 (7.9% in the last quarter of Jan – March 2016)/ 7.4% growth in Gross Value Added (GVA). Rajan is perhaps intrigued with the GDP figure of Rs 1,43,210 crore appearing under the head ‘discrepancies’ on the expenditure side (against Rs 30,000 crore in the Q4 of 2014-15).

Removing the statistical jugglery, the GDP growth will be a dismal 3.9%! The governor is thus unfazed by the euphoria of GDP figures and India being branded as the fastest growing economy which has joined the elite $ 2 trillion club.

To corroborate, the April data on Consumer Price Index based inflation (CPI) and the index of Industrial Production (IIP) have totally shocked the governor. The CPI soared to 5.39% (4.87% in April 2015) as against March position of 4.83% – culprit being food inflation at 6.23% (5.11% in April 2015). The prices of pulses, fruits, vegetables, sugar, meat and meat products have all sharply shot up putting the common man in distress.

Adding to the woes, the industrial output has risen by a paltry 0.1% in March vis-à-vis 2% growth in February. The industrial growth in the FY 2016 has slowed to 2.4 from 2.8% in the previous year. There has been a terrible slippage in the private sector Services Purchasing Managers’ Index which depicts the growth in the services sector (banks, insurance, real estate, health, education - which contributes 20% to our GDP).

The index has nosedived to 51 in May from 53.7 in April. Reading above 50 depicts growth and below 50 – a contraction. The misery does not end here. Corporates are starved of cheap funds from banks, credit off take is hovering in single digit at 9.8%, banks are bleeding with non-performing assets (NPAs) of more than Rs 8 lakh crore.

The governor continues to be disturbed with the banks not passing on the benefit of rate cuts to the borrowers of housing, personal and consumer loans, even with the implementation of Marginal Cost of Lending Rates (MCLR) from April, 2016.

Efficacy under scanner

Cumulatively, 150 bps reduction in repo rate since January 2015 has translated into passing on a mere 70 bps benefit to the borrowers. A worried Rajan is doubting the efficacy of MCLR methodology itself and has put the scheme under the ‘review scanner’.

There is a ghost of Foreign Currency Non Resident (FCNR) deposit of $ 30 billion maturing during September-December 2016 which has to be repaid in dollars. This is something which will create both rupee and dollar volatility though Rajan has assured to provide the required liquidity support at that juncture.

When it comes to the oil sector, Rajan is getting jittery with the spike in oil prices at $ 50 per barrel which was $ 40 during the April review. This spurt will fuel inflation with cascading effect on food and fuel prices.

The spiralling prices coupled with the monetary outflow impact of the Seventh Pay Commission will shoot up the CPI inflation more than 6%, thus making achievement of 5% inflation target as at March 2017 an uphill task.

The global gloom is also taking its toll. Exports are down on account of recessionary trends in most of the countries. Threat of rate hike by the Federal Reserve by September, exit of Britain from the European Union (Brexit) are worrisome concerns to Rajan as these will affect FDIs, forex reserves and rupee valuation.

Exasperated with the above threats, failures and the faulting, the governor has sought refuge in 'rain god' for a good, well distributed monsoon to tide over the crisis. Fortunately, the Met office has predicted above normal monsoon.

Good monsoon augments agriculture growth which contributes 4% to the GDP. Rains replenish drained reservoirs and kick starts the consumer demand cycle of all products- seeds, fertilisers, food, two wheelers, tractors resulting in multiplier effect on employment, income, investment and savings. Farm income firms up.

In sum, it’s a ‘wait and watch’ scenario with the unfolding of so many obstacles and challenges in the growth journey especially centring and radiating around inflation, oil, rate transmission, FCNR and the global gloom. The rate cut window seems to be almost closed for the present.

(The writer is a Bengaluru-based economist)