Reserve Bank of India (RBI), India's central bank and regulatory body, formulates a policy every financial year for meeting national goals.
Termed as India's Monetary Policy, the Monetary Policy Committee (MPC) decides to either revise or maintain existing repo rates, lending interest rates, and other factors required to meet targets.
Typically, the RBI Committee must meet at least four times a year to analyse India's economic performance. Following this financial year, FY 21-22, the RBI announced to host its assembly six times, with the first meeting scheduled in the first week of April.
RBI Monetary Policy 2021
The six-member MPC panel commenced their first meeting for the new financial year on April 5th-7th. Headed by Governor Shaktikantha Das, the committee reviews global macroeconomic and financial developments to plan India's next set of actions.
The committee maintained an accommodative stance. Mr Das notified in his public statement, "The MPC unanimously decided to continue with the accommodative stance as long as necessary to sustain growth on a durable basis and continue to mitigate the impact of the Covid-19 on the economy while ensuring the inflation rate remains with the target going forward."
The accommodative stance, in simple terms, means that the central bank will take necessary measures to inject liquidity into the system when required. This decision was a counteract response to the devastating impact of the pandemic on the Indian and global markets.
Objectives of Monetary Policy 2021
The current RBI Policy measures aimed to offer relief assistance and emotional assurance to the citizens against last year's innumerable losses.
The RBI MPC pledged that the fiscal and monetary authorities would take measures to preserve stability and insulate local firms from global spillovers.
The governor also added, "Our objective is to eschew volatility in the G-sec market in view of its central role in the pricing of other financial market instruments across the term structures and issuers, both in the public and private sectors."
Repo Rate Unchanged
The RBI Policy 2021, for the fifth time in a row since May 2020, kept the repo rate unchanged at 4%. This liberation encourages more outstanding lending at reasonable costs, validating its accommodative stance and adding a sigh of relief to the general sentiments.
The reverse repo rate also remains unchanged at 3.35% from May 2020.
Decoding the Indian Monetary Policy Framework
The RBI Act 1934 provides legislative authority to the central bank to operate the monetary policy framework in the country. The RBI Monetary Policy marks its goal each year of achieving price stability with a growth mindset.
The panel sits for a methodical assessment of the economy from the last MPC meeting, which forms a base to set RBI policy rates to achieve the inflation target. The implications create a ripple effect in the economy, affecting India's global position and relationships with other markets.
Liquidity is a crucial factor in policy determination; thus, repo rate changes transmit through the money market, influencing the aggregate demand, inflation and growth rates at a macro front.
The Monetary Policy Process
The RBI's Monetary Policy Department assists the MPC in the draw-up of the monetary policy. Once the policy repo rate is set, the Financial Markets Operations Department (FMOD) takes over. The authorities execute the procedure in day-to-day operations.
The Financial Markets Committee (FMC) reviews the liquidity position daily to maintain the Weighted Average Call Money Rate (WACR) operating target and its sync with the repo rate.
Term of the Day:
Weighted Average Call Money Rate - The interest rate at which banks lend money to each other overnight.
Monetary Policy Tools
The Indian Monetary policy is a warehouse of supply-affecting quantitative tools, sector-specific qualitative tools, and market stabilisation schemes (MSS).
All of these instruments, directly or indirectly, affect monetary policy.
Repo Rate and Reverse Repo Rate
Repo rate is the interest rate at which commercial banks can borrow from RBI against approved securities. Repo is one of the main tools to control the inflation rate in India.
Reverse repo rate is when RBI borrows money from banks to suck out excess liquidity from the system.
Liquidity Adjustment Facility (LAF)
The LAF enables banks to borrow under repo and reverse repo purchases to overcome short-term cash scarcity.
Marginal Standing Facility (MSF)
Commercial banks can borrow overnight from the RBI if the inter-bank liquidity dries up. This emergency allowance is disbursed at a rate higher than the prevailing repo rate, with government securities as approved collaterals.
Monetary Policy Corridor
It represents the range between the lowest policy rate, i.e., the reverse repo and the highest policy rate, i.e., MSF. These limits determine the corridor for daily movement in the WACR.
This refers to the lending rate at which commercial banks can borrow short-term funds from RBI without pledging securities.
Cash Reserve Ratio (CRR)
It is a fixed percentage of cash deposits that banks are supposed to keep with the RBI. The current CRR stands tall at 3%.
Statutory Liquidity Ratio (SLR)
Under SLR, all banks must invest a certain percentage of money in liquid assets (central and state government securities). The current SLR rate is 18%.
Open Market Operations (OMO)
Under OMO, the RBI buys and sells government securities to maintain liquidity in the economy.
Market Stabilisation Schemes (MSS)
Sometimes, foreign market interventions increase India's money supply to its excess capacity. To neutralise this external injection, the RBI issues MSB to financial institutions that suck in unrequited liquidity.
2021 RBI Policy Outlook
The current policy maintained its growth outlook at 10.5% for FY 21-22.
The governor's statement touched on the following sectors:
- Rural demand is buoyant, hinting at favourable agriculture production to motor up the sector's resilience.
- Urban demand is picking up pace and should skyrocket with the rising vaccination drive.
- The government's move with increased allocations for capital expenditures, expanded PLI scheme, and rising capacity utilisation (63% in Q2 2020-21 to 66% in Q3 2020-21) provides economic fillip and reinforces the demand; they hope to inaugurate the process of economic revival in this manner.
- Given that the resurgence of the second wave of COVID-19 is tightening restrictions in certain states, the government insinuates a temperature of uncertainty blurring the growth outlook of the general public.
As concluded by Mr Das, "India is better prepared to meet the challenges posed by a resurgence in infections. The projection of real GDP for growth for FY 21-22 is retained at 10.5%, consisting of 26.2% in Q1, 8.3% In Q2, 5.4% in Q3, and 6.2% in Q4."
On 31st March 2021, the government capped the inflation tolerance marks at 2% and 6%, respectively, for the next five years (April 2021 - March 2026). Moving forward, the inflation CPI trajectory is subjected to both upside and downside pressures.
- The bumper foodgrain production in 2021-22 will soften cereal prices.
- The government warns of a caveat; high international commodity and logistic costs can impact input prices for the national manufacturing and service sectors.
- They also chip in a grave suggestion: State and central governments should offer respite in domestic taxes on petroleum products to bring moderation in fuel price fluctuations.
With these views, the committee states its prognosis, "Taking into consideration all of these factors, the projection for CPI inflation is revised to 5% in Q4 2020-21, 5.2% in Q1 and Q2 2021-22, 4.4% in Q3, and 5.1% in Q4, with risks broadly balanced."
Surprise Move With G-Sec Acquisition Programme
Despite strong inter-connectedness of global financial borders and repeated assurance on the RBI's end, India recorded an upsurge in investor unease during the pandemic. To undo this roadblock, the government decided to move forward with the secondary market bond purchase programme termed the G-Sec Acquisition Programme or GSAP 1.0.
As part of this effort, the government will purchase a specific amount of government securities that gain the necessary attention. The government announced a GSAP of Rs 1 lakh crore for Q1, FY 21-22. Das asserts, "The endeavour will ensure congenial financial conditions for the recovery to gain traction."
Unravelling Economist Reactions
The majority of the industry leaders expressed that the policy's accommodative stance was on the expected lines of community predictions.
Abheek Barua, Chief Economist at HDFC Bank, mentions that the policy's dovish tone has put blanketing fears of pre-mature tightening through rates or liquidity management to rest. He also believes that inflation is an unlikely area of concern in the coming months.
"The focus of the policy was on yield management and announcement on the G-sec acquisition program (GSAP 1.0) that shall stabilise and support long-term yields. Growth is likely to remain the policy priority", states Barua.
Madhavi Arora, Lead Economist, Emkay Global Financial Services, believes, "On macro parameters, the inflation forecast for FY 22 is balanced with strong food production output and countered with possible cost-push pressures. We reckon the RBI will continue to strive to fix artificially skewed yield curves and maintain its preference for curve flattening."
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