In the last credit policy, the MPC didn’t touch the repo rate, and chose other routes to ensure better funds-flow to corporates that would result in lower interest rates. With CPI inflation being high, and unlikely to come close to the 4% mark even in April,a repo rate cut wasn’t possible. There have been developments since February, besides advice from the government to lower rates, to stimulate the economy. The response to coronavirus, which has raised the spectre of a possible global economic slowdown, has been one of them. Initially, various governments remained confined to mere talk of going all out to fight the virus—central banks gave assurances that interest rates will be lowered, and the ECB even assured markets that liquidity will not be a hindrance.
Interestingly, when the Fed cut interest rates by 50 bps, bringing the range to 1-1.25% (it has come down to near-zero after Fes’s rate-action over the weekend), the markets let it go by like ‘idle wind’. The move intended to raise spirits, as it meant cheaper funds for all. However, the tepid response implied that liquidity, and cost of funds can’t really fight the virus. With growth slowing, companies shutting down, and countries restricting human movement, the Fed rate cuts don’t matter.
This is logical—monetary policy response to a virus is not too relevant. True, if rates come down, as they have on fear of a recession, so will borrowers’ costs, but they will not produce or invest more when activity comes to a standstill. Hence, monetary policy action under these conditions can be a palliative for industry, but not really revive growth, which will be driven by the course and longevity of the virus.
What, then, will RBI do? When the Fed lowered rates earlier, the markets expected RBI to react—which it did, through a statement on its website. The markets conjectured a rate cut before the policy date. The discussion was whether it would be of 25 bps or 50 bps. Internally, the impact, so far, has been limited, confined to preemptive closures—MNCs asking staff to work from home. The spread, though sporadic, is not alarming; while supply chains, tourism, trade, and exports have been affected, the tipping point hasn’t yet been reached. RBI’s course of action will be awaited.
It is still unclear if RBI can lower rates without the MPC’s advice, or whether such a meeting can be called ahead of the policy in April. But, judging from evidence from other countries, it looks unlikely that the rate cut will stop the economic downslide. The 135 bps cut in the past hasn’t really impelled growth, which is to slide to 5% this year; further cuts, though beneficial to borrowers, cannot revive the economy. Interestingly, interest rates had already come down sharply, with the Tbill rates lower by 20-30 bps post the February policy, meaning all loans linked with Tbill (retail, SMEs, etc) would be benefiting from the global panic that has driven down rates, notwithstanding the country’s high inflation.
Can the government do anything? Again, the answer is negative. While the government can increase health-spend, the absence of treatment facilities means that fiscal policy is also ineffective. It may work well after the virus’s impact comes to an end, but can’t turn events right now.
Hence, neither monetary policy (a supply-side response to the crisis) nor fiscal policy (a demand side response) will be presently efective. India has to be prepared for lower growth, depending on the intensity of the pandemic. In a scenario where India unaffected but faces collateral damage, supply chains will be hit as imports distortion can upset production processes. Auto, electronics, and pharma, would be worst hit by this. Tourism, hospitality, and transport, too, face disruptions.
Will GDP growth, then, decline? Prima facile, the answer is yes as the epidemic has struck at a time when recovery was expected. The government and RBI expect a 6% growth in FY21. Even if there is no shutdown in India, the impact of global developments can’t be ignored. A three-month lockdown can shave at least 0.5% off Q1growth.
Growth in FY21 was predicated on recovery in consumption in the automobiles and consumer goods sectors. These segments face possible supply chain challenges, which can affect Q1 growth prospects. Some clue can be obtained from Q4FY20 growth as February and March will witness the first effects. Exports will surely be depressed, and the recent oil imbroglio doesn’t augur well for the global economy, though India would gain from lower import bills.
This recession will be unique in that it wouldn’t be caused by a financial crisis (1987, 1997, or 2007), or an oil crisis (the 1970s), or any political conflagration. The concept of a global slowdown due to a virus, in the era of modern medicine, questions the concept of globalisation.
With economic protectionism leading to breakdown of trade agreements and eruption of trade wars, the viral outbreak questions the principle of comparative advantage, and dependence on other countries, as collateral damage can be significant even if nations aren’t directly impacted.
Companies will have to revisit their supply chains, and industries their business strategies. The earlier episodes of virus attacks—swine flu, zika, and SARS—were localised, with a lesser global impact then the present one. Globalisation stands exposed under these conditions, and more importantly cannot quite be addressed by policy.
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