Raising the rate and the bar

The MPC’s announcement to raise the key policy rate by 50 bps met the majority market expectations head-on. The trifecta of negativities, plaguing the global landscape, is also reflected in our estimates of the measure of domestic monetary policy independence, now at March 2020 levels when the pandemic had just set in. This sums up the rate decision of the Reserve Bank of India (RBI) and it may have to again recalibrate the monetary decisions of US Fed even in December policy.

We thus believe that a 35-bps rate hike in December looks imminent, taking the repo rate to 6.25% but beyond December, it would be a touch and go. Additionally, it seems even though the intended capex announcements slowed down in Q1FY23, the working capital utilisation is still contributing to the double-digit credit growth. We need to look at this trend for the perceived growth inflation rate trade off and the possibility of a rate reversal cycle in FY24 with inflation forecast at 5% in Q1FY24.

Even though there are concerns on inflation, we estimate that for most of the crops, the difference between mandi prices and MSP prices have declined in the past five months. This indicates that mandi prices are moderating (including paddy) which will have a favourable impact on cereals inflation in coming months.

On the liquidity front, the RBI has maintained the “withdrawal of accommodation” stance, with government surplus cash balances amounting to Rs 3.87 lakh crore still lying unspent. The RBI has also suggested that the banks have reduced excess SLR in G-secs by Rs 75,000 crores till August /1.6% of NDTL. A further 2% reduction could free up Rs 1 lakh crore and bring SLR to 25% of NDTL.

We however believe that a further 25% could only happen once the banks carefully judge the cost-benefit analysis of whether to have a larger liquidity buffer in an uncertain global environment.

The evolvement of financial markets got some reinforcing measures on banking front as the regulator took the cudgels to move towards expected credit loss (ECL) regime for provisioning. The announcement addresses the drawback that rate of standard asset provisions has not been determined based on credit loss history of Indian banks. The ECL framework however will frontload the provisioning requirements for banks.

The RBI’s decision to introduce a framework for securitisation of stressed assets in addition to the ARC route, is in part due to the preference of banks shifting to alternative avenues, with asset sales declining as a proportion to outstanding GNPAs across bank groups. This was also due to the worsening acquisition cost of ARCs as a proportion of book value of assets, reflecting higher haircuts and lower realisable values in respect of their acquired assets.

The easing of internet banking facility to RRB customers is also a welcome step as RRBs are mandated to fulfil several conditions such as CRAR, NPA, profitability etc. for providing transaction rights to their customers.

Finally, the RBI is right in not providing a forward guidance in the current uncertain environment but providing a detailed explanation of keeping the stance unchanged. In 2013, bond yields and term premiums had rose sharply, because of communication difficulties. This was illustrated by the clarification from the then Fed Chair Janet Yellen in 2015: “Just because we removed the word ‘patient’ … doesn’t mean we are going to be impatient”. Yield curve is indeed a public good!
(The author is Group Chief Economic Advisor, State Bank of India. Views are personal)