Market expectations are normally self-fulfilling. So was it with the monetary policy announced, when the market expected that nothing will happen, and quite surely, nothing did. At least for the repo/reverse repo and CRR there were no surprises. This neutral stance of RBI does raise some interesting issues.
If one goes back to the last three policies, including this one, economic conditions have been quite unchanged. From September, WPI has come down while the economy has been doing well in terms of IIP and GDP growth. This was the case of supply bottlenecks being released as well as strong economic growth tendencies being displayed at the same time. Yet, RBI persisted with rate hikes in two policies, and an unchanged stance in the recent one. In fact, the policy came just after the weekly WPI came as a shocker with food inflation rate rising for the fourth week in a row when the base year effect was already high as well as harvest coming in. In a way, a rate hike at this time would be more compelling as food inflation has been increasing and month on month index numbers are on the rise.
If one were to interpret the RBI stance, it can be concluded that it was giving a break to the system from the series of interest rate hikes, before probably reviewing the situation in January. Inflation is on the rise on the demand side and today there is some scepticism of inflation coming down as price levels remain elevated in the market place. This has kept inflationary expectations high even though the number appears to be lower, which is more on account of the base effect.
How RBI addressed the liquidity issue is also interesting. We have a situation where bank credit is growing faster than deposits. Incremental deposits available for financing credit are low, which contributes to the liquidity problem. Deposits are not growing for a variety of reasons. To begin with, real deposit rates continue to be in the negative zone (going by the CPI). The stock market offers better enticement for those with risk appetite. Further, high inflation has led to more hoarding of currency— the increase in holding of currency has been Rs 103,864 crore compared with Rs 58,166 crore last year during the same period. This normally happens when the cost of living increases.
Also, incremental deposits have been whimsical given that the several IPOs, especially of PSUs, have led to the blockage of funds with oversubscription of these issues. To top it all, the government is not spending the money it collected form the 3G auctions, which would have come back into the system partly in the form of deposits. Hence, there has been hoarding of money at this end too.
Would such a liquidity situation be called transient or more permanent? We have had RBI lending around Rs 1 lakh crore through the repo window on a consistent basis since October. RBI had waived the penalty on non-maintenance of the SLR as well as undertaken buy back of securities from banks, but with mixed success. Under these circumstances, it does appear that the liquidity issue is more on the structural side since the situation on the deposits side is going to continue to prevail in a similar manner for the rest of the year with another Rs 20,000 crore of disinvestment in the offing. Therefore, CRR cut would have been in order, to release between Rs 25-50,000 crore through a cut of 50-100 bps. Given that the investment deposit ratio for the system is already 30.6%, a 1% cut in SLR will affect only those banks which are on the fringe of 25% SLR today.
But, RBI’s dependence on the OMO route suggests that it expects the situation to improve. The day of the credit policy saw the two LAFs provide around Rs 145,000 crore to banks, which does show the severity of the issue, though admittedly, this pressure will ease once the advance tax payments flow back to the system. To conclude, it may be said that RBI has evidently paused to assess the situation later in January before reviewing its options after taking an informed call on the permanency or transience of liquidity and inflation.
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