A rate cut by the Reserve Bank of India (RBI) was eagerly awaited this time and the governor did not disappoint. The aggressive 75 basis point (bp) drop in the repo rate is commendable, as it provides the necessary balm to boost the economy. This is obviously intended to counter the negative impact of the coronavirus pandemic (Covid-19). Governor Shaktikanta Das was very careful not to give any forecast for growth or inflation because, as he rightly stated, things are moving so quickly, he is not sure how long the threat will last and of how its spread and depth will impact the economy. Therefore, the policy addresses the immediate problem of mitigating the damage caused by the virus.
The RBI decided to use a new way to influence interest rates. The repo rate has dropped to 4.4%, while the reverse repo rate is now 4% with a difference of 40 basis points. The idea is to ensure that banks do not deposit surpluses in the repo auction, which averages 3 trillion rupees a day. Now they will be forced to invest their surpluses in credit rather than giving it to the RBI. It is probably the first time that the central bank has changed the size of this corridor to 65 basis points instead of 40 basis points. It will be interesting to see how the banks react, because they should be more reactive to the needs of the hour and change their mindset to ensure that they lend more to businesses.
The decision to increase the liquidity of the system is again very remarkable. The downside this time is that the long term refinancing option (LTRO) of 1 trillion rupees will have to be invested in corporate bonds, commercial paper (CP) or debentures, which will be sort of beneficial for the markets and is therefore novel. While the LTRO has so far aimed to provide funds for direct loans, this time it is more about direct paper underwriting, which also means that it cannot be hoarded or invested in government paper . Second, the reduction in the cash reserve ratio (CRR) provides another 1% of NDTL to banks for lending purposes with a lower minimum daily balance to maintain.
The 1% increase in MSF, as well as the two measures above, would inject another 3.74 trillion rupees into the system, which represents a big jump in liquidity. Combine that with the open market (OMO) and LTRO operations of the past, and the monetary stimulus provided is 3.2% of GDP, which is quite substantial from the perspective of the RBI, which complemented the efforts from the government to relieve the pain caused by Covid-19.
Regulatory measures are also important because it is something that market players have been looking forward to. The three-month moratorium on all term loans is absolutely necessary, which will make it easier for businesses, since the reduction of supply chains and foreclosure have meant a major blow to most businesses in terms of capacity. debt service. For banks, postponing the maintenance of the last tranche of the capital conservation cushion would be a relief as they also readjust their balance sheets to comply with regulations.
Overall, the announcements are very good and the RBI did it well on time, so that, from a monetary point of view, all the obstacles are largely resolved. The assurance that Indian banks are very safe is timely, as there had been some skepticism earlier this month.
The author is chief economist at CARE Ratings.
Warning: the opinions expressed are personal. They do not reflect the views of Business Standard.