Is the market fixation to interest rate overdone? It does seem to looking at the reaction over central bank’s policy.
The stock market was expecting a rate cut from the RBI governor, but since he did not oblige, markets have tanked, bond yields have hardened and the currency has weakened. Instead of cutting rates, the governor has eased liquidity by cutting cash reserve ratio (CRR) by 25 basis points which will result in additional liquidity of Rs 17,500 crore.
The key issue for industry is not of high interest rates, but banks’ reluctance to lend. Despite the rise in deposits, risk-averse banks are lending only 9.5 paise for every rupee of deposit raised. Banks prefer to invest the incremental deposits in government bonds rather than lend to corporates.
Of the banks that have declared their September 2012 results, there is a clear trend that they have preferred lending to individuals rather than companies. Added to this is the fact that though RBI has kept rates unchanged, banks have cut their base rates, but not increased credit. Credit growth registered by banks has largely been on account of growth of personal loans, vehicle loans and housing loans.
A squeeze in credit has resulted in a sharp slowdown in manufacturing activity. As per the Macroeconomic and Monetary Developments report, capacity utilisation is the lowest in the last 13 quarters. Supply side squeeze is resulting in higher non-food product inflation. It is this issue which is of a bigger concern to the central bank than interest rates.
Banks on their part are reluctant to lend on account of rising non-performing assets. The central bank has made lending even less remunerative by increasing the provisioning norm by 75 basis points which will result in lower profits for the banks. This would to some extent be set off by raising the CRR and freeing funds which banks can deploy to generate higher yields. However, banks, especially those who having a higher exposure to distressed assets will be impacted.
Staring at lower profitability and higher provisioning, banks are unlikely to be brave enough to lend. Reducing interest rate would not have made banks bolder, rather a pick-up in investing activity would prompt them to start lending. Clarity in policy matters and future growth would provide bankers with that confidence. And this clarity can be provided by the government and not the RBI governor.
