CRR cut is the first step to monetary easing

Quite interestingly the RBI has made an important announcement on having podcasts which is quite unique.

By Madan Sabnavis 

Banks can take heart from the credit policy unveiled today. The CRR cut was something which was required, as liquidity has been volatile in the last two weeks or so and would continue to be so in this month. The RBI has been using the liquidity framework of using variable rate repo (VRR) and variable rate reverse repo (VRRR) to stabilise liquidity. This has provided stability though banks wanted an assurance of more permanent liquidity. The CRR cut does this quite appropriately as the amount of Rs 1.16 lakh crore is large. This will have an impact on not just liquidity but also bond yields once the money flows in. Markets were expecting either a CRR cut or OMO purchases.

First step to monetary easing

On deeper thought, the CRR cut can also be interpreted as a prelude to monetary easing. When the stance was changed to neutral in the last policy, it was more an articulation of possible easing with no specific action being taken. Now that liquidity has been increased, logically a rate cut can be expected going ahead provided inflation numbers turn favourable. Another view here is that this reduction has been timed when liquidity is tight or can get tighter; but it takes the rate back to what it was before the Ukraine war. Hence, it is not out of sync with the rate in the past.

The RBI has also raised the ceiling on interest rates on FCNR deposits. This is an interesting move for sure as it opens the door for more forex flows. But this will work in a big way provided banks increase their rates and customers find these rates attractive compared with other alternatives in their territories. Therefore, the efficacy of the same will depend on how banks calibrate their interest rates depending on the demand for such funds given that these deposits can be used for forex lending. Therefore, this would be something to be seen going ahead.

Podcasts add to communication channels

Quite interestingly the RBI has made an important announcement on having podcasts which is quite unique. It has to be seen as to how frequent would these be made and the subjects taken up as there are several things happening in the economy. This is in markets as well as economic indicators. Ideally if views are expressed on currency and liquidity conditions, they would be very useful signals for the market. Hence this will be something that everyone would look forward too. While the RBI does give forecasts on growth and inflation every time a policy is announced, a view on a more regular basis will provide valuable inputs.

The question now will be whether there can be a rate cut on the anvil? While the RBI will go based on data, some interesting scenarios can be spoken of. In December, it does look like that with inflation numbers of 6.2 percent and 5.5 percent in the preceding two months, it was difficult to pitch for a rate cut as inflation was high. In February, there would be information for November and December. Now Q3 forecast is 5.7 percent with one data point being 6.2 percent. The average for the next two numbers would be in the range of 5.4-5.5 percent and hence are likely to be above 5% in both the months. In this event, taking a call on rate cut will again be open to discussion.

It does look like that economic conditions would be easing to a new normal in the next few months with growth stabilising at around 6.6 percent according to the RBI. Inflation too is to come down to 4.5 percent in the fourth quarter. A rate cut would be a signal to say that things can only get better from the point of view of industry. Given that the average repo rate in the last 10 years has been in the range of 6- 6.5 percent, the new cycle could be probably one with cuts of 25-75 basis points depending on how the inflation numbers behave.

(The author is Chief Economist, Bank of Baroda.)

Views are personal and do not represent the stand of this publication.