August , 2017
RBI monetary policy inadequate for economy
14:01 pm

Kishore Kumar Biswas

RBI Governor Urjit Patel speaking on the Third Bi-Monthly Monetary Policy Statement 2017-18.

The Reserve Bank of India (RBI) reduced the repo rate by 25 basis points or 0.25% on August 1. It was an expected move. The repo rate is the rate at which the commercial banks take short term loan from the RBI. That is, this rate is an indication of the policy of banks to disburse loans to their customers. So if the repo rate falls, it is expected that the cost of funds of banks reduces and hence, it is expected that the cost of funds of the investors may be lower or banks can disburse loans to their customers at lower rates.

The stakeholders are reported not to be very enthusiastic about the move of the RBI as it is considered to be
inadequate. Arundhati Bhattacharya, Chairman, SBI, in her reaction to the RBI’s move, told the press that there would be little scope for the banks to pass on any benefit of lowering, repo rate to the customers by reducing lending rates.Urjit Patel, Governor, RBI, has been reported as saying, “...On fresh lending the transmission has been much stronger and especially in segments where there is a lot of competition (housing loans
and personal loans where non-banking financial companies play a big part)”. On the other hand, “when it comes to loan portfolio that is tied up on account of base rate and liabilities of a longer nature, the transmissions have been slower,”  he added. The stock markets are also not enthusiastic about this move of the RBI. Repo rate is not always an important determinant of rates of disbursed loans of banks. This is because only a small portion of their source of funds, say about 1% of the total, comes through the repo.  

Should the RBI cut the repo rate further?

A section of investors and observers think that the RBI should have decreased the repo rate at least by 50 basis points as the ongoing inflation rate in the economy is very low. In that case, the business sector could get more relief. It is reported that only one member of the Monetary Policy Committee (MPC) voted against the rate cut and four members opted for a rate cut of not more than 25 basis points. The MPC thinks that there is a possibility of rise in inflation in the coming months to around 4%. The factors behind the expected higher inflation are agriculture loan waivers, implementation of states’ pay commission, rising vegetables prices, etc. The Committee has pegged the growth projection at 7.3% as was projected earlier by the RBI. Good monsoons, impact of the GST, rural growth due to bigger budget allocation for the rural economy are some of the positive factors for higher growth. Still, the MPC is not very optimistic about the effect of lowering the repo on growth of  the GDP.

Economic blues

It is thought that as the deposit rates are receding there will be a tendency of the savers to move towards mutual funds or post office or to some risky sectors. It is said that at present the real interest rate in banks, that is, nominal interest rate minus inflation rate, is at a 15-year high. So will the banks be able to convince savers of it and be able to attract more savings at banks? Some of the interest sensitive sectors like real estate, in spite of falling interest rates, are unable to attract high credit growth. This is mainly due to the effect of demonetisation and the introduction of the Real Estate Regulatory Authority.

The Indian economy has been undergoing about 25% excess capacity in production sector. It is reported that on a study of 259 advanced companies in Q1 (except Reliance and Vedanta), their revenues rose by only 3.6% year-on-year.
How the situation can be reversed is a question. The Nikki India Manufacturing PMI (Managers’ Purchasing Index) has been slowing down from April. It was 52.5 in April, 51.6 in May, and 50.9 in June. But last June it was 47.9, the
lowest since 2009. PMI below 50 implies contraction of production from the previous month. So can this falling
PMI be attributed only to GST anomalies as has been pro-jected by the national media?

Some of the observers are suggesting removal of policy bottlenecks like implementing proper labour laws, proper fixation of taxes and so on. But is there not a possibility of an aggravating unemployment situation, which has already been very severe in India, and deepening of the demand crisis in the economy? The wage share has been falling for quite some time. This is not only true of India. Income inequality has been rising globally. The government of India has been mainly depending on public expenditure to maintain GDP growth. In the coming quarters the government of India may go for moderating expenditure to maintain the so called fiscal discipline.


The government can take the policy of producing commodities for high mass consumption. This should enhance employment and effective demand and may turn back the economic slowdown. India has been passing through a situation where the role of the monetary policy is not of great impact.

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