RBI keeps policy rates unchanged, says the worst is over for the economy

RBI to run 'accommodative' stance as long as necessary and even entering the next year

The newly formed monetary policy committee (MPC) unanimously decided to keep policy rates unchanged in the bi-monthly policy meets for October, while the Reserve Bank of India (RBI) governor said the worst was possibly over for the economy and the focus must now “shift from containment to revival”.

The six-member MPC, which was formed earlier this week, met for three days to keep policy repo at 4 per cent, and said the real gross domestic product (GDP) growth rate in 2020-21 could decline by 9.5 per cent, with “risks tilted to the downside.”

However, the economy is witnessing an upturn, and if the current momentum gains ground, “a faster and stronger rebound is eminently feasible,” said Shaktikanta Das, RBI governor, in an online address on Friday morning.

“Today, there is a turn in the wind, which suggests that it is not imprudent to dream of a brighter tomorrow even in the bleakest of times,” Das said.

The policy statement said that the MPC was of the view that “revival of the economy from an unprecedented Covid-19 pandemic assumes the highest priority in the conduct of monetary policy.” Inflation will be under control in the second half of the fiscal, and therefore, it can be looked through for now.

Several high-frequency indicators are pointing to the easing of contractions in various sectors of the economy and the emergence of impulses of growth, the governor said.

The governor said, the economic recovery would likely be a “three speed recovery,” with individual sectors showing varying paces, depending on sector-specific realities.

The policy guidance was “unexpectedly strongly dovish” and was a notable change from the August MPC minutes which had reflected concerns over inflation, said Radhika Rao, economist with DBS. However, DBS expects a 25 basis points rate cut only in February.

Growth supportive measures

The RBI policy is “fixated to revive growth and has attempted to prepare a conducive ground for the same,” said newly appointed SBI chairman Dinesh Kumar Khara.

To fortify the growth momentum, the RBI will keep its policy stance ‘accommodative’ at least during the current financial year and into the next year,” while ensuring that inflation remains within the target going forward, Das said.

Markets reacted positively to the RBI measures. The 10-year bond yield fell 9 basis points to 5.925 per cent, from its previous close of 6.015 per cent. The three-year bond yield fell 33 basis points to 4.541 per cent. Rupee closed at 73.16 a dollar, up 0.12 per cent from its previous close of 73.24. Sensex rose 326.82 points to 40,509.49, led by banking stocks.

The central bank will ensure enough liquidity in the banking system for the government and states to borrow smoothly, while chipping in with open market operations (OMO) to buy bonds from the secondary market as and when needed. The OMO size will now be Rs 20,000 crore per operation, from Rs 10,000 crore earlier. This addressed the concerns of the bond market participants who were complaining of oversupply concerns.

Apart from the OMO support, the central bank also allowed banks to tap funds under targeted long term repo operations (TLTRO) on-tap, provided these funds are used to buy bonds pertaining to specific sectors that need funds.

Furthermore, the RBI will conduct OMOs for state development loans (SDL) too, so that the secondary market liquidity of SDLs and cost for the states remain easy.

Banks can now invest up to 22 per cent of their deposits in held-to-maturity category till March 2022. This will help them buying more government bonds and at the same time, help them minimize mark-to-market losses.

“The measures are a potent force to support bond market, catalyse rate transmission and improve liquidity so as to be conducive to the revival prospects,” said Bank of India’s managing director and CEO A. K. Das.

“The on tap TLTRO, Gsec and SDL OMOs and the extension of the period for the enhanced HTM limit will cap interest rates and ensure a resilient economic recovery,” said Zarin Daruwala, CEO, India, Standard Chartered Bank.

To push for ease of doing business, the central bank also made Real Time Gross Settlement (RTGS) system functional 24/7. This system is used for fund transfer over Rs 2 lakh and is used for facilitating market and other bulk transactions on a real time basis. The central bank also did away with the five-year licence renewal requirement for payments systems providers and said such licences can now be held on a perpetual basis.

The central bank will now take banks’ recommendations on caution listing exporters on a case by case basis, instead of running an automatic caution listing of exporters. It will help them to negotiate better terms with their overseas customers.

The central bank also tweaked the retail lending norms of banks and said maximum aggregate retail exposure to an individual or small firm would be Rs 7.5 crore, from Rs 5 crore earlier. This will help more credit flow to small companies with a turnover of up to Rs 50 crore.  

To give boost to the housing sector, the RBI said risk weights can be adjusted now based on loan-to-value ratio, instead of the ticket size of loans earlier.

The inflation too, should start to come within the target 2-6 per cent from the third quarter, the RBI governor said, as against 6.7 per cent recorded during July to August. The MPC projected CPI inflation at 6.8 per cent for the quarter ended September, 5.4-4.5 per cent for the second half of the current financial year and and 4.3 per cent for the first quarter of the next fiscal, “with risks broadly balanced.”

“While inflation has been above the tolerance band for several months, the MPC judges that the underlying factors are essentially supply shocks which should dissipate over the ensuing months as the economy unlocks, supply chains are restored, and activity normalises. Therefore, the MPC decided to look through the transient effect of the inflation and decided to pause.