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Last Updated : Aug 06, 2020 03:59 PM IST | Source: Moneycontrol.com

Read the full statement of RBI governor Shaktikanta Das on monetary policy

Read the full statement of RBI governor Shaktikanta Das


Governor’s Statement– August 6, 2020


1. The Monetary Policy Committee met on 4th, 5th and 6th August for its second meeting of 2020-21, the 24th under its aegis, completing four years of   its operation under the new monetary policy framework.  The MPC sifted through domestic  and  global  conditions  and  evaluated  their  unfolding  impact  on  overall  outlook  for  India  and  the  world.  At  the  end  of  its  deliberations,  the  MPC  voted  unanimously  to  leave  the  policy  repo  rate  unchanged at 4 per cent and continue with the accommodative stance of monetary policy as long as necessary to revive growth, mitigate the impact of COVID-19, while ensuring that inflation remains within the target going forward.  The  Marginal  Standing  Facility  (MSF)  rate  and  the  Bank  rate  remain  unchanged  at  4.25  per  cent.  The  reverse  repo  rate  stands  unchanged at 3.35 per cent.  I thank the MPC members for their valuablecontributions to the policy decision taken today.


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2.   The Reserve Bank of India (RBI) is    perhaps the only central bank in the world to have set up a special quarantine facility with its officers, staff and  service  providers,  numbering  about  200,  for  critical  operations  to ensure business continuity in banking and financial market operations and payment  systems.  Other  teams  in  the  RBI  have  ensured  availability  of  digital  banking  channels,  ATMs, internet/  mobile  banking,  cyber  security, redress  of  customer  grievances,  and  carried  out  sustained  campaigns about  safe  use  of  digital  transactions  through  RBI  Kehta  Hai. Our  teams  have  also  provided  logistical  support,  and  engaged  in  analysis  and  research to back the conduct of financial and monetary policies. I am proud of all of them for their tireless commitment to public service. I would also like  to  applaud  all  employees  of  banks  and  other  financial  entities  for  ensuring uninterrupted operations in these trying times. Our gratitude also goes out to all COVID warriors – medical and health personnel, police and other law enforcement agencies, authorities at various levels and others.


Assessment

3.   In  the  MPC’s  assessment,  global  economic  activity  has  remained  fragile  and  in  retrenchment  in  the  first  half  of  2020.  A  renewed  surge  in  COVID-19 infections in major economies in July has subdued some early signs  of  revival  that had appeared  in  May  and  June.  Global  financial  markets, however, have been buoyant, with the return of risk-off sentiment inserting a  disconnect  from  the  underlying  state  of  the  real  economy.  Portfolio  flows  to  emerging  markets  have  resumed  and  their  currencies  have appreciated.


4.   The global manufacturing purchasing managers’ index (PMI) and the global services PMI rose to 50.3 and 50.5, respectively in July, moving back to   the   expansion   zone.    The   World   Trade   Organisation   (WTO)   has   estimated  that  the  volume  of  merchandise  trade  shrank  by  3.0  per  cent  year-on-year  in  Q1  and  early  estimates  suggest  a  fall  of  18.5  per  cent  in  Q2. CPI inflation remains largely subdued across major AEs, primarily due to  benign  fuel  prices  and  soft  aggregate  demand  since  March.  In  most  EMEs, however, CPI inflation, after easing in April-May, rose in June amidst cost-push pressures. Domestic food inflation remains elevated across most economies since the onset of the pandemic.

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5.   The  MPC  noted  that  in  India  too,  economic  activity  had  started  to  recover  from  the  lows  of  April-May;  however,  surges  of  fresh  infections  have  forced  re-clamping  of  lockdowns  in  several  cities  and  states.  Consequently,  several  high  frequency  indicators  have  levelled  off.  The agriculture  sector’s prospects are strengthened by  the  progress  of  the  south-west    monsoonand    expansion    in   the   total   area   sown underkharif crops by 13.9 per cent up to July 31 over last year. Industrial production remained in contraction albeit at a moderated pace in May. The manufacturing  purchasing  managers’  index  (PMI)  shrank  in  July  for  the fourth  consecutive  month.  The  PMI  services  remained  in  contractionary zone in July, although the downturn eased, relative to the June reading.


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6.   Headline CPI inflation, which was at 5.8 per cent in March 2020, was placed at 6.1 per cent in the provisional estimates for June 2020. Inflation pressures were evident across all sub-groups. Households’ one year ahead inflation   expectations   were   lower   than   their   three   months   ahead   expectations  in  the  July  2020  round  of  the Reserve  Bank’s  survey, indicating  their  anticipation  of  lower  inflation  over  the  longer  horizon. Producers’  sentiments  on  input  prices  remained  muted  as  their  salary  outgoes fell. Their selling prices contracted in Q1 in the April-June round of the Reserve Bank’s industrial outlook survey.


7.   India’s  merchandise  exports  contracted  for  the  fourth  successive  month  in  June  2020,  although  the  pace  of  fall  moderated.  Imports  fell  sharply  in  June  in  a  broad-based  manner,  reflecting  weak  domestic  demand  and  low  international  crude  oil  prices.  The  merchandise  trade  balance recorded a surplus in June (US$ 0.8 billion), after a gap of over 18 years.


8. On the financing side, net foreign direct investment moderated to US$ 4.4  billion  in  April-May  2020  from  US$  7.2  billion  a  year  ago.  In  2020-21 (April-July),  net  foreign  portfolio  investment  (FPI)  in  equities  at  US$  5.3  billion  was  higher  than  US$  1.2  billion  a  year  ago.  In  the  debt  segment,  however, there were outflows of US$ 4.4 billion during the same period as against  inflows  of  US$  2.0  billion  a  year  ago.  Net  investment  under  the  voluntary  retention  route increased  by  US$  0.9  billion  during  the  same period.  India’s  foreign  exchange  reserves  have  increased  by  US$  56.8  billion  in  2020-21  so  far  (April-July)  to  US$  534.6  billion  (as  on  July  31,  2020) – equivalent to 13.4 months of imports. The ratio of foreign exchange reserves to external debt has gone up from 76.0 per cent at the March 2019 to 85.5 per cent at the end of March 2020.


Outlook


9. Against this backdrop, the MPC was of the view that supply chain disruptions on account of COVID-19 persist, with implications for both food and non-food prices. A more favourable food inflation outlook may emerge as the bumper rabi harvest eases prices of cereals, especially if open market sales and public distribution offtake are expanded on the back of significantly higher procurement. Nonetheless, upside risks to food prices remain. The abatement of price pressure in key vegetables is delayed and remains contingent upon normalisation of supplies. Protein-based food items could also emerge as a pressure point. Higher domestic taxes on petroleum products have resulted in elevated domestic pump prices and will impart broad-based cost push pressures going forward. Taking into consideration all these factors, the MPC expects headline inflation to remain elevated in Q2:2020-21, but likely to ease in H2:2020-21, aided by favourable base effects.


10 . As regards the outlook for growth, the MPC noted that the recovery of the rural economy is expected to be robust, buoyed by the progress in kharif sowing. Manufacturing firms expect domestic demand to recover gradually from Q2 and to sustain through Q1:2021-22. On the other hand, consumer confidence turned more pessimistic in July relative to the preceding round of the Reserve Bank’s survey. External demand is expected to remain anaemic under the weight of the global recession and contraction in  global  trade.  Taking  into  consideration  the  above  factors,  real GDP growth in the  first  half  of  the  year  is estimated to remain in the contraction zone. For the year 2020-21 as a whole, real GDP growth is also estimated to be negative. An early containment of the COVID-19 pandemic may  impart  an  upside  to  the  outlook.  A  more  protracted  spread  of  the  pandemic,  deviations  from  the  forecast  of  a  normal  monsoon and  global financial market volatility are the key downside risks.


11  . The  MPC  noted  that  in  an  environment  of  unprecedented  stress, supporting  recovery  of  the  economy  assumes  primacy  in  the  conduct  of  monetary policy. While space for further monetary policy action is available, it  is  important  to  use  it  judiciously  to  maximise  the  beneficial  effects  for  underlying economic activity. At the same time, the MPC is conscious of itsmedium term inflation target. The headline inflation prints of April-May 2020 are obscured by (a) the spike in food prices and (b) cost-push pressures. Meanwhile, the cumulative reduction of 250 basis points is working its way through  the  economy,  lowering  interest  rates  in  money,  bond  and  credit  markets, and narrowing down spreads. Given the uncertainty surrounding the inflation outlook and extremely weak state of the economy in the midst of an unprecedented shock from the ongoing pandemic, the MPC decided to keep  the  policy  rate on  hold,  while  remaining  watchful  for  a  durable  reduction  in  inflation  to  use  available  space  to  support  the  revival  of  the  economy.


12  . Living  with  the  pandemic  has  improved  the  way  we  manage  it  – working  from  home;  virtual  meetings;  and “contactless”  transactions. Throughout this traumatic period, one thing has stood out –   the indomitable spirit of humanity, the inner conviction that whatever be the challenge, we have  the  innate  resilience  to  combat  them,  overcome  them  and  emerge  victorious.  I  continue  to  be  an  eternal  optimist;  Mahatma  Gandhi  should inspire us  : “If our resolve is firm and our conviction clear, it would mean half the battle won....”


Impact of the Monetary and Liquidity Measures taken by the RBI


13  . Against this backdrop, let me turn to the impact of the monetary and liquidity measures so far taken by the RBI to mitigate the negative fallout of COVID-19.


14  . It may be noted that transmission of the rate cuts by the MPC would not  have  been  possible  to  the  extent  achieved  so  far  without  creating comfortable  liquidity  conditions.  The  overriding  objective  was  to  prevent financial markets from freezing up; ensure normal functioning of  financial intermediaries;  ease the stress faced by households and businesses; and keep  the  life  blood  of  finance  flowing.  This  is  achieved  by  infusing largeamounts  of  liquidity  in  and  out  of  the  system  through  injections  and  absorptions  through  the  LAF.  In  the  process,  the easing  of  financial  conditions has actually enhanced monetary transmission and, thereby, the effectiveness  of  the MPC's  accommodative  stance  and  actions.  What  is  more, the injections of liquidity, including through open market operations, special  operations  and  forex  interventions,  are  being  fully  sterilised  by  absorptions through the reverse repo, while preventing a seizure of money markets under extreme risk aversion and uncertainty.


15  . Another aspect that needs to be recognised is that RBI’s open market purchases  are  aimed  at  reducing  funding  costs  for  private  sector  entities  that issue instruments in the market which are usually priced off the G-sec yield  as  the  benchmark.  In  fact,  it  is  worthwhile  to  see  who  is  benefiting  from RBI’s actions.  Borrowing costs in financial markets have dropped to their lowest in a decade on the back of abundant liquidity. Interest rates on instruments  like  the  3-month  Treasury  bill,  commercial  paper  (CP)  and  certificates  of  deposit  have  fully  priced  in  the  reduction  in  the  policy  rate  and are, in fact, trading below it in the secondary market. CPs of NBFCs have softened to 3.  80 per cent on July 31  , 2020. Rates have fallen to 3.40 per cent on July 31, 2020 for non-NBFC borrowers.


16  . With illiquidity premia dissipating under the impact of Operation Twist and TLTRO 1.0, spreads of 3-year AAA-rated corporate bonds over similar tenor government securities have also declined from 276 basis points on March 26, 2020 to 50 basis points on July 31, 2020. Spreads on AA+ rated bonds softened from 307 basis points to 104   basis points; spreads on AA bonds narrowed from 344 basis points to 142 basis points over the same period.  Even for the lowest investment grade bonds (BBB-), spreads have come down by 125 basis points as on July 31, 2020.


17  . Lower borrowing  costs  have  led  to  record  primary  issuance  of  corporate bonds of₹2.09 lakh crore in the first quarter of (April-June) 2020-21. In particular, market financing conditions for NBFCs, which had become challenging,   have   largely   stabilised   in   the   wake   of   targeted   policy   measures. For AA+ rated 3-year NBFC bonds, spreads over similar tenor G-secs  have  narrowed  from  360 basis  points  on  March  26  to  139  basis  points on July 31, 2020.


18.Abundant liquidity has supported other segments of financial marketstoo.  In  particular,  MFs  have  stabilised  since  the  Franklin  Templeton  episode. Assets under management of Debt MFs, which fell to ₹12.20 lakh crore as on April 29, 2020, recovered and improved to ₹13.89 lakh crore as on July 31, 2020.


19  . At  the  same  time,  financial  conditions  have  improved  in  specific  sectors. Although non-food bank credit has slowed to 5.6 per cent (As on July 17),  credit  to  NBFCs  is  growing  at  25.7 per  cent  in  June,  loans  to  services  at  10.7 per  cent,  and  to  housing  at  12.5 per  cent.  Monetary  transmission  has  also improved  considerably.  The  weighted  average  lending rate (WALR) on fresh rupee loans sanctioned by banks declined by 162 basis points during February 2019-June 2020,  of which 91 basis points transmission was witnessed during March-June 2020.


Additional Measures

20  . With     COVID-19     infections     rising     unabated     under     fragile     macroeconomic   and   financial   conditions,   we   propose   to   undertake   additional developmental  and  regulatory  policy  measures  to  (i) enhance liquidity  support  for  financial  markets  and  other  stakeholders;  (ii) further ease financial stress caused by COVID-19 disruptions while strengthening credit discipline; (iii) improve the flow of credit; (iv) deepen digital payment systems;  (v)  augment  customer  safety  in  cheque  payments;  and  (vi) facilitate   innovations   across   the   financial   sector   by   leveraging   on   technology.


21  .  In the worst peacetime health and economic crisis of    the last 100 years that we face today, the regulatory response has to be dynamic, proactive and balanced. While designing the major announcements that I am making today,  we  have  ensured  that  necessary  safeguards  are  in  place  for  preserving financial stability. We are fully mindful of RBI’s responsibility to maintain  stability  of  the  financial  sector.  While  I  am outlining the  main  measures,  the  Statement  on  Developmental  and  Regulatory  Measuresaddresses them in greater detail.


(i) Additional Special Liquidity Facility (ASLF)


22  . Additional special liquidity facility of ₹10,000 crore will be provided at the  policy  repo  rate  consisting  of  : ₹5,000  crore  to  the  National  Housing Bank  (NHB)  to  shield  the  housing  sector  from  liquidity  disruptions  and  augment  the  flow  of  finance  to  the  sector  through  housing  finance companies (HFCs); and ₹5,000 crore to the National Bank for Agriculture and Rural Development (NABARD) to ameliorate the stress being faced by smaller   non-bank   finance   companies   (NBFCs)   and   micro-finance institutions in obtaining access to liquidity. (ii) Resolution Framework for COVID-19-related Stress


23  . The “Prudential Framework on Resolution of Stressed Assets” dated June   7,   2019   provides   a   principle-based   resolution   framework   for   addressing borrower defaults. Any resolution plan implemented under the Prudential  Framework,  which  involves  granting  of  any  concessions  on  account of financial difficulty of the borrower, entails an asset classification downgrade except when accompanied by a change in ownership, subject to prescribed conditions.


24  . The  disruptions  caused  by  COVID-19  have  led  to  heightened  fin ancial stress for borrowers across the board. A large number of firms that otherwise maintain a good track record under existing promoters face the challenge of their debt burden becoming disproportionate, relative to their cash  flow  generation  abilities.  This  can  potentially  impact  their  long-term viability  and  pose  significant  financial  stability  risks  if  it  becomes  wide-spread.  Accordingly,  it  has  been  decided  to  provide  a  window  under  the  June 7th Prudential Framework to enable lenders to implement a resolution plan  in  respect  of  eligible  corporate  exposures  - without  change  in  ownership -  as well as personal loans, while classifying such exposures as standard assets, subject to specified conditions.


25  . In  the  light  of  past  experience  with  regard  to  use  of  regulatory  forbearance,  necessary  safeguards  have  been  incorporated,  including  prudent entry norms, clearly defined boundary conditions, specific binding covenants,    independent    validation    and    strict    post-implementation performance monitoring. The underlying theme of this resolution window is preservation of the soundness of the Indian banking sector.


26  . The  Reserve  Bank  is  constituting  an  Expert  Committee  (Chairman:  Shri  K.V.  Kamath)  which  shall  make  recommendations  to  the  RBI  on  the  required financial  parameters,  along  with  the  sector  specific  benchmark  ranges for such parameters, to be factored into resolution plans. The Expert Committee shall also undertake a process validation of   resolution plans for borrowal accounts above a specified threshold. The details of the resolution framework are spelt out in Part ‘B’ of the MPC resolution and the circular, both of which will be issued immediately after this press statement.


Restructuring of MSME debt  


27  . A restructuring  framework  for  MSMEs  that  were  in  default  but  ‘standard’  as  on  January  1,  2020  is  already  in  place.  The  scheme  has  provided relief to a large number of MSMEs. With COVID-19 continuing to disrupt normal functioning and cash flows, the stress in the MSME sector has got accentuated, warranting further support. Accordingly, it has been decided   that   stressed MSME   borrowers   will   be   made   eligible   for restructuring  their  debt  under  the  existing  framework,  provided  their accounts with  the  concerned  lender  were  classified  as  standard  as  on  March 1, 2020. This restructuring will have to be implemented by March 31, 2021.


Advances against Gold Ornaments and Jewellery


28. As per extant guidelines, loans sanctioned by banks against pledge of  gold  ornaments  and  jewellery  for  non-agricultural  purposes  should  not  exceed  75  per  cent  of  the  value  of  gold  ornaments  and  jewellery.  With  a  view  to  mitigating  the  impact  of  COVID-19  on  households,   it  has  been decided to increase the permissible loan to value ratio (LTV) for such loans to 90 per cent. This relaxation shall be available till March 31, 2021.


Banks’  Investment in  Debt  Mutual  Funds  and  Debt  Exchange  Traded funds – Capital Charge for Market risk


29.As  per  RBI’s  extant  Basel  III  guidelines,  if  a  bank  holds  a  debt  instrument directly, it would have to allocate lower capital, as compared to holding the same debt instrument through a Mutual Fund (MF)/Exchange Traded  Fund  (ETF).  It  has  been  decided  to  harmonise  the  differential  treatment existing currently. This will result in substantial capital savings for banks and is expected to give a boost to the corporate bond market.


Review of Priority Sector Lending Guidelines


30. With a view to aligning the guidelines with emerging national priorities and  bring  sharper  focus  on  inclusive  development,  the  Priority  Sector  Lending (PSL) guidelines have been reviewed. An incentive framework is now being put in place for banks to address the regional disparities in theflow  of  priority  sector  credit.  While  higher  weightage  will  be  assigned  for  incremental  priority  sector  credit  in  the  identified  districts  having  lower  credit  flow,  a  lower  weightage  would  be  assigned  in  identified  districts  where the credit flow is comparatively higher. PSL status is also being given to start-ups; and the limits for renewable energy, including solar power and compressed bio-gas plants, are being increased.


Other measures that are being announced today include

31. (a)  Introduction  of  an  automated  mechanism  in  e-Kuber  system  to provide  banks  more  flexibility/discretion  in  managing  their  liquidity  and  maintenance of cash reserve requirements.


b) While permitting lenders to provide relief to the borrowers through various measures, it is also considered necessary to take appropriate measures for strengthening credit discipline. In view of the concerns emanating from use of multiple operating accounts by borrowers, both current accounts as well as cash credit (CC)/overdraft (OD) accounts, it has been decided to put in place certain safeguards for opening of such accounts for borrowers availing credit facilities from multiple banks.


(c) The Reserve Bank has constantly endeavoured to encourage responsible innovation by entities in the financial services sector. In order to further promote and facilitate an environment that can accelerate innovation across the financial sector, Reserve Bank will set up an Innovation Hub in India. Further details about the Innovation Hub would be announced in due course.


(d) To enhance safety of cheque payments, it has been decided to introduce a mechanism of Positive Pay for all cheques of value ₹50,000 and above. This will cover approximately 20 per cent and 80 per cent of total cheques by volume and value, respectively. Operational guidelines in this regard will be issued separately.


(e) A scheme of retail payments in offline mode using cards and mobile devices, and a system of on online dispute resolution (ODR) mechanism for digital payments will also be introduced.


Concluding Remarks


32 . At this juncture, the war against COVID-19 is most intense, and the world is bracing up for a second wave as it cautiously opens up. The pandemic poses a challenge of epic proportions, but our collective efforts, intrepid choices, innovations and true grit will eventually take us to victory. As Mahatma Gandhi had said, “Patience and perseverance, if we have
13them, overcome mountains of difficulties”2. The challenges of today will only strengthen our resilience and self-belief. We shall remain alert and watchful and collectively do whatever is necessary to revive the economy and preserve financial stability. Courage and conviction will conquer Covid-19.

Thank you.
First Published on Aug 6, 2020 01:14 pm
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