There is a wealth of information in the recent Second Quarter Review of Monetary Policy 2013-14 by the Reserve Bank of India (RBI). Understandably, a quarterly review should be more comprehensive than a mid-quarter review such as the one released on September 20. The latter deals with the bare details of monetary policy issues, and rarely comments on the broader economic issues.
There are as many as eight credit policy statements in a year, that is, once in about every 45 days, the RBI has something or the other for the markets and even for the lay people. Earlier, there were just two. The increased frequency of communication is a recognition of the fact that in a fast liberalising economy, monetary policies like other government policies, notably the Budget, have meanings for the common man also. In other words, the previously arcane policies need to be disseminated across a wider audience.
It is customary to view monetary policy reviews solely from the prism of monetary measures — whether there has been a change in the repo rate or in the cash reserve ratio (CRR). Such a pre-occupation is understandable. After all, the interest rate issues concern a large number of people, who have a home loan or a car loan. What is the outlook for interest rates?
Two topical issues in the monetary policy statement are discussed here.
On monetary and liquidity measures, the RBI increased the repo rate by 25 basis points to 7.75 per cent but reduced the Marginal Standing Facility (MSF) rate by an identical margin to 8.75 per cent. The difference between the two is now just 100 basis points, and that is how it was envisaged to be at the time the MSF rate was first introduced in May, 2011. The MSF rate was raised in July, 2013, as part of an exceptional package to combat the rupee’s sharp depreciation. Bank borrowings through the repos were capped. Therefore, borrowing from the RBI at the MSR rate had the intended consequence of raising the cost of funds, thereby, trying to curb speculation in the exchange markets.
With the rupee having stabilised, the MSF had been brought down, and with the repo rate going up — both in stages — normalisation has been achieved. The RBI has left the CRR unchanged, but has sought to boost liquidity provided through short-term repos of 7-day and 14-day tenor. This facility has been introduced fairly recently, and will broad-base the short-term money market.
What is in it for the common man?
Normalisation of monetary policy rates indicates that the repo rate will be restored to its pre-July position of being the policy rate. Under normal circumstances that would be a signal to banks to raise their interest rates. But the MSF has been brought down, and the short-term repos will now provide more liquidity. Understandably, many banks have reacted cautiously, waiting to study the full implications.
But in the context of high inflation — the RBI expects retail inflation to hover around 9 per cent — the repo rate hike is an attempt to counter inflation. In the days to come, more hikes may follow from this inflation-focussed approach.
Subsidiary route for foreign banks
An announcement (removed from monetary policy issues but of great topical interest) is that foreign banks will be encouraged to take the subsidiary route. This suggestion is applicable to existing foreign banks as well as those planning to enter. The RBI had earlier submitted a discussion paper based on which the subsidiarisation route was preferred mainly from the stability angle. The wholly-owned subsidiaries of foreign banks will be given near-national treatment, including in the opening of branches. The initial minimum capital will be Rs.500 crore.
A policy paper is awaited soon, which will, hopefully, clear the air on this sensitive subject. RBI Governor Raghuram Rajan recently told an American audience that foreign banks could not only enter India but also be able to take over some local banks.
The RBI will be guided by the principle of reciprocity (will Indian banks be allowed in those countries?) and insist on their being incorporated in India. In the coming weeks, there will be plenty of discussions on this subject but probably not enough action to justify the new policy.