Indian central bank’s pragmatic moves will help the new government stick to prudent fiscal management and usher in broader reforms, reports Team IFM
New Delhi, June 10: India’s central bank chief Raghuram Rajan Tuesday eased credit rules and indicated he would ease monetary policy further if inflation slowed faster than anticipated, leaving interest rates unchanged for a second straight meeting. Markets were bullish as the move was widely seen to spur bank lending.
The Reserve Bank of India (RBI), which kept rate on hold at 8 percent as expected, also indicated that it would not increase the rate as long as inflationary pressures continued to ease.
The easing of credit rules and Governor Rajan’s dovish stance on inflation are expected to make the pro-business government stick to conservative fiscal spending and usher in broader reforms to get the economy – Asia’s third largest – back on rails, Reuters quoted economists as saying.
The RBI kept the benchmark repurchase rate at 8 percent, as predicted by all of the 38 analysts who figured in a Bloomberg News survey. He has raised the rate by 75 basis points since taking office in September to fight Asia’s fastest price gains.
The central bank said further policy tightening would not be warranted if consumer-price inflation went down to 8 percent in January 2015 and 6 percent a year later. If disinflation was faster than anticipated “it will provide headroom for an easing of the policy stance,” it said.
Narendra Modi’s landslide victory to power last month is spurring optimism that as Prime Minister he will take steps to reduce price pressures and lead a recovery of one of the world’s biggest emerging markets, which is forecast to grow at the slowest pace since 2009.
REINING IN INFLATION
The RBI decisions are being widely seen as pragmatic moves. Fighting inflation tops Governor Rajan’s agenda and to do that he will need the support of the Modi government.
Investors are hopeful the new government will respond by narrowing the fiscal deficit with appropriate belt-tightening measures and tackling the supply-side factors that drive up food inflation in India, thus easing the burden on poor people and restoring investor confidence.
“If the economy stays on this course, further policy tightening will not be warranted,” Rajan said in the RBI statement, referring to the moderating trend in inflation.
The central bank governor also said the single-party majority in the central government after 30 years could help “create a conducive environment for comprehensive policy actions and a revival in aggregate demand as well as a gradual recovery of growth.”
Particularly, the governor’s dovish remarks on inflation triggered a rally in bonds and raised expectations that the central bank could even ease monetary policy as early as this year.
Obviously, Rajan takes comfort from the consumer price inflation that cooled in 2014 from the near 10 percent level in the two previous years. This decreasing trend could allow him to take adequate measures to improve growth after raising interest rates by a total of 75 basis points since September. Its last tightening move came in January.
Analysts say concerted efforts by the government could help the RBI meet its target to bring down CPI inflation to 8 percent by January 2015 and 6 percent the following year. The finance minister himself has realised the importance of tethering inflation to a comfortable level.
India must move towards fiscal discipline to lower inflation, curb budget deficit and spur growth, Bloomberg quoted Finance Minister Arun Jaitley as saying last Sunday.
ENHANCING CREDIT
On Tuesday RBI enhanced availability of credit at the banks in a bid to bolster growth that figures prominently on the ruling party agenda. The statutory liquidity ratio (SLR) – mandatory amount of bonds that lenders must park at the central banks – was cut by 50 basis points to 22.5 percent of deposits, starting mid-June.
The central bank said it stayed focused on further developing money markets in order to ensure that cash in the banking system flows to productive sectors– a shift from its earlier approach to injecting liquidity only to specific sectors as and when the need arises.
Among the measures taken on Tuesday, the RBI reduced the liquidity provided to exporters while pledging to provide additional cash via term repos, i.e., cash for loan transactions.
“The central bank is aware that the economy needs an impetus and the RBI is ensuring through its measures today that liquidity remains a potent tool to revive growth in the real economy,” Reuters quoted Soumya Kanti Ghosh, chief economic adviser at State Bank of India as saying.
It also relaxed rules on overseas remittances, allowing Indians to move up to $125,000 from $75,000 after the exchange rate stabilised. The central bank also allowed foreign investors to participate in domestic exchange traded currency derivatives.
The Royal Bank of Scotland said in a research note that the increase in annual remittances and trading rules reflected the RBI’s confidence on India’s external position.
Economists surveyed by Bloomberg forecast average growth in the BRICS — the group of countries including Brazil, Russia, India, China and South Africa — will be 5.3 percent this year, the slowest since 2009. It was 8.7 percent in 2010.
“Short-term disciplining till we reverse the present trend will give us long-term benefits,” Finance Minister Jaitley wrote on his website on June 1. The ruling Bharatiya Janata Party (BJP) pledged in its campaign manifesto to “break the vicious cycle of high inflation and high rates,” partly by creating price stabilization funds and taking measures to prevent hoarding of food, which makes up 50 percent of the CPI basket.
“A credible deficit-cut plan by the government is critical to enable the RBI to ease rates,” Bloomberg quoted Arun Singh, an economist at Dun & Bradstreet Information Services India Pvt Ltd, Mumbai, as saying. “Right now, it’s difficult as there are clear risks to inflation from a bad monsoon due to a possible El Nino threat.”
India’s economy grew 4.7 percent in the fiscal year to March 31, compared with a decade-low of 4.5 percent in the previous 12 months. The fiscal deficit was 4.5 percent of GDP, narrower than the previous government’s revised target of 4.6 percent.
The concerted efforts by Rajan are likely to be welcomed by Modi and his government, after the BJP drubbed the Congress party in the elections with a pledge to create jobs and revive an economy that has grown below 5 percent for two consecutive years.
Both Prime Minister Modi and his Finance Minister Jaitley will need to deliver as they face a slew of challenges, from containing price pressures to upholding fiscal discipline.
A key signal of the new government’s intentions will be known in July when it is set to unveil a new budget.
– See more at: http://www.internationalfinancemagazine.com/article/RBI-takes-steps-to-spur-bank-lending.html#sthash.i2x6IY1u.dpuf