Open Mkt Ops to continue if liquidity stays tight: Gokarn

Reserve Bank of India deputy governor Subir Gokarn said the bank had taken congnizance of the tight liquidity situation and announced a cut in Cash Reserve Ratio (CRR) for rapid liquidity infusion. He attributed systemic liquidty deficit to the apex bank's open market operation (OMO) activities. "We will do more OMOs if liquidity remains tight," Gokarn said in an exclusive interview to CNBC-TV18. 

There in no likelihood of a rate hike in the forthcoming policy, but the current environment does not allow the central bank to go for a rapid rate cuts either, Gokarn said.

The key difference between 2008, when rates were cut aggressively, and now lies in the behaviour of commodity prices. Back in 2008, commodity price dropped sharpely which gave RBI the room to go for decisive rate cuts. Also, post Lehman collapse, the world feared advent of another Great Depression, which prompted central banks to act. Rate cuts were the logical step. Today, neither that pace of commodity price fall, nor the hopeless situation exist, Gokarn explained.

Below is the edited interview transcript. Also watch the accompanying videos.

Q: The bond markets have cheered the latest OMO announcement. Can you give us any more details about what the RBI is thinking about the OMO calendar from here on?

A: The basic criterion that has driven our OMO actions from the time we began this cycle has been the extent of the liquidity deficit which is measured by the amount of money that's been borrowed through the repo window and that has been at its peak about close to 3% of the NDTL. So that has motivated it and that continues to motivate it. Now we did the CRR cut last week with a view that this would put in a little more liquidity little more quickly. From that point on, there has been some easing of the repo activity but it's still somewhat higher than we have indicated as a comfort zone. It is right now a little above Rs 60,000 crore. So as long as that pressure persists and it is not the result of some temporary shock, the OMO remains an instrument. But we didn't want to get into a specific commitment of calendar because it's something that we respond to in a technical situation or the tactical perspective.

Q: I ask because on the day of the announcement of the CRR cut, there was some turbulance in the bond market on assumptions that since the CRR has happened, OMOs will be stifled. Subsequently you have tried to ally that concern, but could you go as far as saying that they will continue at the pace at which they have over the last few weeks factoring in the CRR induction of liquidity.

A: I think I will remain with my view that only in an extreme situation the CRR can be a complete substitute for the OMOs. Clearly it was not the case even after the policy when we did realize that there was some apprehension that it was the end of the OMO cycle. We tried to clarify this in subsequent interactions that the OMO as an instrument remained on the table. We have since then put that into action and we will continue with this. So I think that's the assurance that we would like to give. At this point it is very clear that the liquidity conditions are what are driving those decisions and that will continue.

Q: Different people took away different things from the CRR cut. Some believe that it was a liquidity move, others believe it was an explicit signal from the RBI that they are embarking on a rate weakening cycle or monetary expansion cycle. The equity markets celebrated for sure. Can you just give us a little more color on what you tried to indicate?

A: This is an inherent ambiguity of the CRR; because in terms of its immediate impact on markets it clearly has a very direct liquidity implications. So it is a liquidity instrument in that sense. But over the years, given the overall communication strategy of the bank,it has also taken on the role of signaling a monetary stance. So we had to be very careful about the way in which this action was interpreted. We tried both in policy and subsequent communications to clarify whatever doubts people have had. I think the way to see it is that it is consistent with the monetary stance, as signalled over the past two announcements of October and the December, that the cycle has peaked; that we do not see the likelihood of a rate hike and with peaking of the cycle, CRR was used as a liquidity enhancing instrument that did not go against the stance itself. We have also said in our policy that rate cuts which is the next logical action if the cycle has peaked, are contingent on a number of other developments, a number of other signals being received, overall state of the macro economy particularly post the Budget and so on. So the CRR (cut) emphasizes the fact that we are addressing the liquidity issue, we used it in a way which allowed us to put in the equivalent of roughly three OMOs at one stroke and at the same time it does not go against the signals that the interest rate cycle has peaked.

Q: The recent couple of HSBC PMI indicators are showing some rebound in growth. So would you keep an eye on some kind of strengthening in growth or even hardening of commodity prices globally with crude at a USD 112/bbl?

A: I don't think these factors have ever been off our dashboard, they are very central to it. The growth debate has been carried out in the midst of quite a wide range of signals coming from different indicators. If you focused entirely on the IIP, it would be far more pessimistic about growth. If you look at the PMI in last two months, you will say may be things are not so bad. Look at the corporate results. Yes there is a clear sign of deceleration but at least my very rough comparison of expectations with outcomes suggest that more companies exceeded expectations. I am not standing by this analytically at the moment, but it's just an impression that I have got after looking at the results. All of this suggests there is deceleration but it's perhaps not as dramatic as the IIP numbers might have pointed out in November. The IIP even rebounded quite sharply in December. So the general sense that there is a deceleration in growth. It was expected. It's partly the outcome of monetary tightening. That in itself will have some bearing on the inflation trajectory that's the logic of monetary policy transmission. But there are risk factors such as the potential for oil price in particular to surge that can offset this or counter this trajectory and that's something we obviously keep a very close watch on.

Q: So does it appear that you will at least want to hear the Union Budget out for signs of fiscal consolidation before you move on the rate trigger?

A: Yes that's the signal the policy statement made. Obviously this is not as though a contingent statement (was made) that the Budget has to do something to trigger actions. The fiscal situation has to be viewed in the overall context of the growth risks and the inflation risk. So it's an important milestone in our forward-looking dashboard over the next few months. We are going to wait and see how it plays out. We do expect that there will be significant signs of fiscal consolidation when the budget is announced.

Q: What specifically would you want to hear? What would be enough in the RBI's eyes in the Union Budget that would say okay now we don't have such a big fiscal problem or it will be less of a problem going forward and we can now start on the rate easing cycle?

A: It's not so much specific. But the broad indicators are quite clear on the aggregate front, which is the quantum of the deficit in terms of the absolute and percentage GDP as well as on the composition front which is how the expenditure is being reallocated. There is a focus shift towards more capital expenditures which have a direct bearing on addressing the supply bottlenecks. So there is both an aggregate indicator and a composition indicator which we will look at. So within those broad parameters, there is a lot of room, lot of discretion to do different things and that's something which is clearly within the prerogative of the government.

Q: Globally there is a lot of liquidity; we have got USD 5 billion in the last five weeks in India bond and fixed income markets together and promises that the next round of LTRO will probably generate more liquidity across global asset classes. Do you worry next year that contrary to expectations of inflation cooling down we might actually see some kind of resurge in inflation by the middle of next year?

A: That's clearly a risk that the correlation between liquidity and commodity prices is quite visible and correlations in these short time frames are quite important. So it does pose some sort of risk and we have again pointed this out in our risk assessment and the statement that the behavior of commodity prices is and remains a risk to our inflation and growth outlook.

Q: At this point, given that we have seen some early signals of a recovery in growth, are you seeing any signs of a visible pick-up in credit growth as well which will tell you that may be business is turning a corner?

A: The data does not suggest that; obviously we track the credit numbers at high frequency - looking at growth rates both in terms of week-on-week and year-on-year. At this point it still appears that credit growth is on the deceleration trajectory while deposit growth has been for the last few months on the acceleration trajectory. So deposits are growing a little faster than credit. That has been the case for the last few weeks at least.
Now the question is whether there is actual growth recovery or that there is a fair amount of ambiguity in the different indicators. What we are seeing is actually just a simple range around which the trajectory is operating and that may be consistent with the credit growth projections that we have put out and which was somewhat below the 18% we started off with. o So that may be the way things are playing out. But to call this as a sharp sign of recovery, I think it may be putting a little too much emphasis on it. The broad pattern is deceleration, stabilization perhaps and our indications for next year is some bottoming out of the growth rate that we have suggested that we expect an excess growth rate to be slightly higher than this years. So some sort of stabilization is perhaps the best interpretation that one can put on it.

Q: I want your thoughts on this rate cutting cycle whenever it starts in 2-4 months and the rate cutting cycle that we had in 2008 because a lot of comparisons are being made. Some people seem to believe that the pace of rate cuts this time around cannot be as much as 2008. In your eyes what are the essential similarities and differences and do you agree with that hypothesis that this time it's different from the very sharp rate cutting cycle that we saw 3 years back?

A: The key difference if you look at the surrounding circumstances was the very sharp drop in commodity prices in 2008. That actually allowed central banks everywhere to cut rates very aggressively as most were cycles highs preceding the Lehman collapse. That space does not exist today because commodity prices have stabilized and not softened. So in any case that supply pressure on prices remains and that is always going to constrain the room that central banks, including us, have to maneuver on rates. So that's the key difference.

The second key difference is the outlook in 2008 on what might happen after the Lehman collapse. People were really on the edge and everybody was talking about the next great depression and so on. We came out of that downturn, which turned out to be not as significant as people feared, but of course you act on the basis of expectation and not on the basis of outcomes. There was a fear psychosis, if you will, that everything is going to melt down completely if we don't act. I don't think that is the situation today. So both of these factors will validate the argument, the perception that the room for very aggressive and very rapid rate cuts simply does not exist in today's circumstances. But we have to be able to make judgments on the appropriate magnitude of rate cuts and timing consistent with the way in which the growth pattern is playing out. Of course inflation is our primary consideration.

Q: What worries you more as a central banker on the global front, the fact that growth might begin to fade despite optimism  and we might get into difficulties again as the year progresses or do you worry more about the excess liquidity which is being generated by the central banks in Europe or maybe US and what impact that will have on your ability to manage inflation here?

A: The two are interrelated. The liquidity situation that we are seeing now does have created some time for the government and stakeholders involved to arrive at a solution which doesn't always happen if you are pushed into the corner and come out with a solution that is not very robust. So liquidity is providing that room, that time and so it does have a potential long term benefit if it facilitates the emergence of the solution. Liquidity is having some benefits but it may have a negative consequences on commodity prices. But at the same time if it helps the European economies, in particular, to get back on to recovery track that may be very good from the overall growth, inflation view points. So the dilemma in terms of rapidly slowing growth while inflation still remains high may not be as acute if the global economy also starts to recover. So these are interconnected risk factors with some positive dimensions as well.