At the recently concluded monetary policy committee (MPC) meeting of the Reserve Bank of India (RBI)—which was rescheduled from October 1 to October 7—the members unanimously voted to keep the policy repo rate unchanged at 4%.

The six-member MPC, which includes three new members who were inducted earlier this month, also opted to continue with its accommodative stance as long as necessary to revive growth on a durable basis, and mitigate the impact of Covid-19 on the economy, while ensuring that inflation remains within the target going forward.

While the decision of the MPC, which met between October 7 and October 9, was on expected lines as far as the interest rates were concerned, the RBI did announce fresh liquidity and regulatory measures to alleviate the Covid-19-induced pain for the economy.

In his post-policy address, RBI governor Shaktikanta Das said that the Indian economy was entering a decisive phase in its fight against the pandemic. “Relative to pre-Covid levels, several high-frequency indicators are pointing to the easing of contractions in various sectors of the economy and the emergence of impulses of growth,” he said. “By all indications, the deep contractions of Q1FY21 are behind us,” he said, adding that “silver linings are visible in the flattening of the active caseload curve across the country”. In this environment, the RBI governor said, the focus must now shift from containment to revival.

On recovery, Das said that currently there was an animated debate about the shape of it—whether it would be V-, U-, L-, W-, or even K-shaped. “In my view, it is likely to predominantly be a three-speed recovery, with individual sectors showing varying paces, depending on sector-specific realities,” he said.

The RBI governor went on to explain that sectors which would “open their accounts” at the earliest were expected to be those that have shown resilience in the face of the pandemic and were also labour-intensive. He mentioned agriculture and allied activities; fast moving consumer goods (FMCG); two wheelers, passenger vehicles and tractors; drugs and pharmaceuticals; and electricity generation, especially renewables, as some of the sectors in this category.

“In several of these areas, reforms such as in agricultural marketing and value chains encompassing cold storage, transport and processing; changes in labour laws; and creation of capacity for production and distribution of vaccines have already opened up new vistas for fresh investment to step in,” Das said.

The second category to “strike form” would comprise sectors where activity was normalising gradually, he said. And, the third category would include sectors which face the “slog overs”, but they can rescue the innings. “These are sectors that are most severely affected by social distancing and are contact-intensive.”

Highlighting the MPC’s view, Das said that the modest recovery in various high-frequency indicators in September could strengthen further in the second half of FY21 with progressive unlocking of economic activity. While agriculture and allied activities could well lead the revival by boosting rural demand, manufacturing firms expect capacity utilisation to recover in Q3FY21 and activity to gain some traction from Q3 onwards, he said.

However, Das cautioned that both private investment and exports were likely to be subdued as external demand was still anaemic. “For FY21 as a whole, therefore, real GDP is expected to decline by 9.5%, with risks tilted to the downside,” he warned. “If, however, the current momentum of upturn gains ground, a faster and stronger rebound is eminently feasible.”

The RBI governor also touched upon “some disconnect” between the rationale underlying the RBI’s debt management and monetary operations on the one hand, and expectations in the market, on the other which have been prevalent over the past few weeks. Das said he chose to address these issues squarely “so that market participants and the RBI share a common set of expectations, which, in turn, should engender orderly market conditions”. Das mentioned that financial market stability and the orderly evolution of the yield curve are public goods and both market participants and the RBI have a shared responsibility in this regard.

There was a clear glimpse of moral suasion in the RBI governor’s words when he said that market participants, on their part, need to take a broader time perspective and display bidding behaviour that reflects a sensitivity to the signals from the RBI in the conduct of monetary policy and debt management. “We look forward to cooperative solutions for the borrowing programme for the second half of the year,” he said. “It is said that it takes at least two views to make a market, but these views can be competitive without being combative.”

While dwelling on financial market stability, Das also set out the MPC’s assessment of underlying inflation dynamics and outlook. Abstracting from the period April-May, 2020, when imputations imposed a break in the CPI inflation series, headline inflation has moved up from March 2020 levels and has persisted above the tolerance band of the target, Das said. “Our assessment is that it will remain elevated in the September print, but ease gradually towards the target over Q3(FY21) and Q4(FY21),” he said. “Our analysis suggests that supply disruptions and associated margins/mark-ups are the major factors driving up inflation.”

In the MPC’s view, as supply chains are restored, these wedges should dissipate. Meanwhile, aggregate demand remained subdued and there was evidence of considerable resource slack. Large excess supply conditions characterise food grains and horticulture production, and the outlook for agriculture was bright, while crude prices remained range-bound. “The MPC has hence decided to look through the current inflation hump as transient and address the more urgent need to revive growth and mitigate the impact of Covid-19,” he said. “This has provided the space for continuing with the accommodative stance with forward guidance as set out in the MPC’s resolution.”

Finally, Das announced slew of fresh measures to provide impetus towards reviving the economy, with a stated intent to enhance liquidity support for financial markets; regulatory support to improve the flow of credit to specific sectors within the ambit of the norms for credit discipline; provide a boost to exports; and deepen financial inclusion and facilitate ease of doing business by upgrading payment system services.

“The focus of liquidity measures by the RBI will now include revival of activity in specific sectors that have both backward and forward linkages, and multiplier effects on growth,” the RBI governor said. Accordingly, the RBI has decided to conduct on-tap targeted long-term repo operations (TLTRO) with tenors of up to three years for a total amount of up to ₹1 lakh crore at a floating rate linked to the policy repo rate. The scheme will be available up to March 31, 2021, with flexibility with regard to enhancement of the amount and period after a review of the response to the scheme.

Liquidity availed by banks under the scheme has to be deployed in corporate bonds, commercial papers, and non-convertible debentures issued by entities in specific sectors over and above the outstanding level of their investments in such instruments as on September 30, 2020.

The second liquidity measure was aimed at banks’ statutory liquidity ratio (SLR)-compliant holdings in the held to maturity (HTM) category. On September 1, the RBI had increased the investments permitted to be classified as HTM from 19.5% to 22% of banks’ net demand and time liabilities (NDTL) in respect of SLR securities acquired on or after September 1, 2020 up to March 31, 2021.

In order to provide certainty to banks about their investments and to foster orderly market conditions while ensuring congenial financing costs, the RBI has decided to extend the dispensation of the enhanced HTM limit of 22% to March 31, 2022 for securities acquired between September 1, 2020 and March 31, 2021. “It is expected that banks will be able to plan their investments in SLR securities in an optimal manner,” Das said.

The final liquidity measure focusses on open market operations (OMOs) in state development loans (SDLs). With an aim to impart liquidity to SDLs and thereby facilitate efficient pricing, the RBI has decided to conduct OMOs in SDLs as a special case during the current fiscal. “This would improve secondary market activity and rationalise spreads of SDLs over central government securities of comparable maturities,” said Das. “This measure, along with the extension of HTM till March 2022, should ease concerns about illiquidity and absorptive capacity for the total government borrowing in the current year.”

The RBI governor also announced a slew of regulatory measures undertaken by the central bank to boost credit demand, which included revising the limits for banks’ retail portfolio, where the maximum aggregated retail exposure to one counter-party was increased to ₹7.5 crore, from the absolute threshold limit of ₹5 crore earlier. Also, under prevailing regulations, differential risk weights were applicable to individual housing loans, based on the size of the loan as well as the loan-to-value ratio (LTV). “In recognition of the role of the real estate sector in generating employment and economic activity, it has been decided to rationalise the risk weights and link them to LTV ratios only for all new housing loans sanctioned up to March 31, 2022,” Das said. “This measure is expected to give a fillip to the real estate sector.”

In his concluding remarks, the RBI governor reiterated that Covid-19 had tested and severely stretched “our resources and our endurance”. “Our travails are not over yet and a renewed rise in infections remains a serious risk,” he warned. “We will reach deep into our fortitude and inner strength to overcome whatever formidable challenges Covid-19 may unleash going forward.”

Clearly, there are no dearth of challenges for the economy at large, and the RBI in particular, and it is visible in the MPC choosing to continue its accommodative policy stance into the next year to revive growth on a durable basis and mitigate the impact of Covid-19.

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