After the hype and the anticipation by India Inc. and the government alike, regarding an easing in liquidity and key policy rates by the Reserve Bank of India (RBI) to spur growth, came the status quo. The apex bank decided to maintain its short-term lending (repo) rate at eight per cent as before and left the cash reserve ratio (CRR) unchanged at 4.75 per cent.
The unexpected inaction on the part of the RBI took one and all by surprise, as it came as a betrayal. Having factored in a repo rate reduction of 25 basis points at the least, along with the good news from Greece in early trading, the markets spooked and India Inc. was livid, with due reason.
At an Assocham event in Mumbai during the weekend, Finance Minister Pranab Mukherjee threw enough hints that, apart from the official announcement, an easing of interest rates by the Central bank was a given, by way of a monetary policy measure to boost growth. Pitching for the RBI joining the government in dealing with the ongoing slowdown, the UPA President-elect had said: “I am confident that keeping in view all the factors, the RBI will adjust the monetary policy, as we are adjusting the fiscal policy.”
Commenting on the RBI policy here on Monday, even as the Bombay Stock Exchange's Sensex tanked by 244 points and eroded Rs. 75,000 crore in investor wealth, Mr. Mukherjee maintained that containing high inflation may have been the primary concern of the apex bank, and it wasn't necessary for the RBI Governor to consult the Finance Minister before mid-quarter monetary policy reviews.
Incidentally, this isn't the first time that the government and the RBI aren't on the same page on monetary policy, and policy analysts find it heartening that the apex bank has held on to its own, despite intense pressure. A Central bank's primary concern is to contain inflation and guarantee currency and monetary stability. In a large measure, RBI Governor D. Subbarao appears to be miffed at the government's inaction regarding a host of measures, including fiscal consolidation.
This is somewhat clear from the apex bank's official statement on mid-quarter policy review. “The Reserve Bank had frontloaded the policy rate reduction in April with a reduction of 50 basis points. This decision was based on the premise that the process of fiscal consolidation, critical for inflation management, would get underway, along with some supply-side initiatives. Our assessment of the current growth-inflation dynamic is that there are several factors responsible for the slowdown in activity, particularly in investment, with the role of interest rates being relatively small. Consequently, further reduction in the policy interest rate at this juncture, rather than supporting growth, could exacerbate inflation-related pressures,” it said.
Pointing further to why RBI has decided to maintain status quo, the statement said: “It is relevant to assess as to what extent high interest rates are affecting economic growth. Estimates suggest that real effective bank lending interest rates, though good, remain comparatively lower than the levels seen during the high growth phase of 2003-08. This suggests that factors besides interest rates are contributing more significantly to the growth slowdown.”
In a more direct reference to the government's inaction on diesel pricing and oil subsidy, the RBI said: “In the absence of pass-through from international crude oil prices to domestic prices, the consumption of petroleum products remains strong, distorting price signals and preventing the much-needed adjustment in aggregate demand. The consequent subsidy burden on the Government is crowding out public investment at a time when reviving investment, both public and private, is a critical imperative. The widening current account deficit (CAD), despite the slowdown in growth, is symptomatic of demand-supply imbalances, and a pointer to the urgent need to resolve the supply bottlenecks.”