Dovish MPC opts for status quo

The Reserve Bank of India (RBI) has decided to keep the policy repo rate—the rate at which the central bank lends short-term funds to banks—unchanged at 4%. Upon the conclusion of the meeting of the RBI’s Monetary Policy Committee (MPC), held from June 2 to June 4, governor Shaktikanta Das said that the MPC had voted unanimously to maintain status quo.

The MPC also decided unanimously to continue with its ‘accommodative stance’ as long as necessary to revive and sustain growth on a durable basis and continue to mitigate the impact of Covid-19 on the economy, while ensuring that inflation remains within the target going forward. Following the MPC’s status quo, the marginal standing facility (MSF) rate and the bank rate remain unchanged at 4.25%, while the reverse repo rate continues to be 3.35%.

Given the second wave of the pandemic, there was a consensus among economists and analysts that the central bank would prefer to wait and watch, and the policy would be more of a non-event. Rightly so, in his 30-minute post-policy virtual address, the RBI governor noted that since the MPC’s April meeting, the second wave of Covid-19 has surged across several states and spread to smaller towns and villages, leaving a trail of human misery and tragedy in its wake.

In the context of economic growth, Das also said that the pandemic’s second wave is associated with unexpectedly higher rates of morbidity and mortality relative to the first wave. “The breakout of mutant strains that render the virus highly transmissible across both urban and rural areas has led to fresh restrictions on activity being imposed across a large swath of the country,” said Das. “Yet, unlike in the first wave, when the economy came to an abrupt standstill under a nation-wide lockdown, the impact on economic activity is expected to be relatively contained in the second wave, with restrictions on mobility being regionalised and nuanced.”

However, while explaining the MPC’s rationale behind its decision, Das noted that factors like the forecast of a normal south-west monsoon, the resilience of agriculture and the farm economy, the adoption of Covid-19 compatible operational models by businesses, and the gathering momentum of global recovery are forces that can provide tailwinds for the revival of domestic economic activity when the second wave abates. “On the other hand, the spread of Covid-19 infections in rural areas and the dent on urban demand pose downside risks,” Das warned. “Ramping up the vaccination drive and bridging the gaps in healthcare infrastructure and vital medical supplies can mitigate the pandemic’s devastation.”

Das highlighted that the RBI projected the real GDP growth for FY22 at 9.5%, consisting of respective quarterly growth of 18.5%, 7.9%, 7.2%, and 6.6% in the current fiscal’s Q1, Q2, Q3, and Q4. Meanwhile, the Consumer Price Index (CPI) inflation is projected at 5.1%, 5.2%, 5.4%, 4.7%, and 5.3% respectively in Q1, Q2, Q3, and Q4 of FY22.

While talking on the liquidity and financial market guidance, Das touched upon the secondary market G-Sec acquisition programme, or G-SAP 1.0 for ₹1 lakh crore in the first quarter of FY22, flagged off after the MPC meeting on April 7, whereby the central bank was to commit upfront to a specific amount of open market purchases of government securities with a view to enabling a stable and orderly evolution of the yield curve amidst comfortable liquidity conditions. For Q2FY22, Das said it had also been decided to undertake G-SAP 2.0 operations of ₹1.20 lakh crore to support the market. “To tackle likely pressures on domestic interest rates, the RBI highlighted presence of $600 billion foreign exchange (FX) reserves as a deterrent ahead of a crucial (U.S.) FOMC meeting and gave predictable indications on RBI’s bond buying programme, G-SAP 2.0.,” said Prithviraj Srinivas, chief economist at Axis Capital.

According to Aurodeep Nandi, India economist and vice president at Nomura, the monetary policy hand-eye coordination is getting increasingly complicated, as the second wave is impacting growth, especially at a time of rising inflationary pressures. “The RBI’s policy actions today were largely on expected lines—keeping all three levers —rates, stance, and forward guidance unchanged and dovish, while relying on G-SAP as a tool to deliver further accommodation and to prevent any premature tightening of financial conditions,” said Nandi. “For now, we expect the RBI to remain accommodative for the foreseeable future, and the timing of the RBI’s ‘policy pivot’ towards normalisation will remain crucially contingent on the economy’s ‘vaccine pivot’ towards sustainable growth recovery.”

While the policy was a non-event from the standpoint of rates, Das announced a ₹15,000-crore liquidity window to mitigate the adverse impact of the second wave of the pandemic on certain contact-intensive sectors till March 31, 2022. Under the scheme, banks can borrow from the central bank for three years at the repo rate and provide fresh lending support to hotels and restaurants; tourism—especially travel agents, tour operators, and adventure/heritage facilities; aviation ancillary services— such as ground handling and supply chain; and other services that include private bus operators, car repair services, rent-a-car service providers, event/conference organisers, spa clinics, and beauty parlours/saloons. By way of an incentive, banks will be permitted to park their surplus liquidity up to the size of the loan book created under this scheme with the RBI under the reverse repo window at a rate which is 25 basis points, or 0.25%, lower than the repo rate or, termed in a different way, 40 basis points, 0.40%, higher than the reverse repo rate.

Das said that with an aim to nurture the still nascent growth impulses and ensure continued flow of credit to the real economy, the central bank, in the April 7 MPC policy, had extended fresh support of ₹50,000 crore to All India Financial Institutions (AIFIs) for new lending in FY22. This included ₹15,000 crore to the Small Industries Development Bank of India (SIDBI), to support the funding requirements of micro, small, and medium enterprises (MSMEs), particularly smaller MSMEs and other businesses including those in credit deficient and aspirational districts. On Friday, Das said that the RBI decided to extend a special liquidity facility of ₹16,000 crore to SIDBI for on-lending/ refinancing through novel models and structures. “This facility will be available at the prevailing policy repo rate for a period of up to one year, which may be further extended depending on its usage,” the governor said.

According to Mumbai-based Jimeet Modi, founder and CEO, Samco Group, the RBI has indeed given a helping hand, in whatever way possible, to boost liquidity for MSMEs, the hardest hit space in this pandemic. “Support to the contact-intensive sectors is definitely a move in the right direction although the relief package could have been higher to hold the bottom of the pyramid from losing ground,” said Modi. Kochi-based V.K. Vijayakumar, chief investment strategist at Geojit Financial Services, called the on-tap liquidity window for contact intensive sectors an unconventional measure to mitigate the sufferings of segments which are badly hit by the pandemic.

In conclusion, the RBI governor noted that the central bank has engaged in safeguarding the economy and the financial system from the ravages of the pandemic. “We have been on continuous vigil—through the first wave; the lull between the waves; and now the second wave,” he said. “Maintaining financial stability and congenial financing conditions for all stakeholders is a commitment that we have adhered to assiduously.” The RBI will continue to think and act out of the box, planning for the worst and hoping for the best, the RBI governor said.