MPC | RBI chooses gradualism over big bang action

“The global economy has seen tectonic shifts beginning 24th February, with the commencement of the war in Europe.”

Russian invasion of Ukraine has aggravated monetary policymakers’ challenges across the globe by simultaneously harming growth and putting upward pressure on inflation, when countries are struggling to come out of the pandemic-induced shock.

In the April 8 policy review, the RBI’s Monetary Policy Committee (MPC) has chosen ‘gradualism’ over any ‘big bang’ action to effect the necessary course correction.

First, the MPC has sensitised market participants about the gravity of emerging macro risks by lowering its GDP growth projection by 60 bps to 7.2 percent and increasing CPI inflation projection by 120 bps to 5.7 percent for the year FY23, by raising the underlying crude oil price expectation by a sharp $25 per barrel.

Second, in his post policy press meet, the RBI Governor said that now the central bank will gradually move away from accommodation and prioritise ‘inflation’ before growth after a gap of three years.

Third, to take forward the process of liquidity normalisation without hampering ‘financial stability’, the RBI has introduced the Standing Deposit Facility (SDF) and restored the LAF corridor to the pre-pandemic level of 50 bps. By fixing the SDF rate at 3.75 percent and the Marginal Standing Facility (MSF) rate at 4.25 percent, the RBI has restored a symmetric configuration around the policy repo rate of 4 percent, which now will be at the centre of the corridor. The use of a narrow corridor combined with auction-type liquidity operations will help the RBI to reduce volatility in short-term market interest rates, in the process strengthening the process of monetary policy transmission.

Market interest rates will start increasing at a faster pace now — which is positive for savers, especially the fixed income earners.

Another important aspect that will restore the sense of stability and reduce market speculation is the fact that all members of the MPC have unanimously voted both in favour of keeping the policy rates unchanged as well as retaining the ‘accommodative’ stance at this juncture against the backdrop of escalation of the geopolitical situation.

Instead of explicitly supporting the government borrowing programme, the RBI has enhanced HTM (held to maturity) limit by 100 bps from 22 percent to 23 percent of NDTL (net demand & time liabilities) till Match 31, 2023. This will certainly support the bond market sentiment despite a sharp upward revision in the inflation forecast.

Given the broad-based tendency towards ‘retailisation’ of credit, and the current growth momentum in the home loans segment, the RBI has decided to extend the applicability of pandemic-period home-loans guidelines (i.e., linking of home-loan risk weights only with loan-to-value ratios for all newly sanctioned home loans) till March 31, 2023. This is expected to facilitate higher credit flow for individual housing loans.

Other important developmental and regulatory measures announced in the policy include the RBI’s decision to come out with a discussion paper on climate risk and sustainable finance, promotion of card-less cash withdrawal facility using UPI across all banks and ATM networks, rationalisation of net-worth requirement for operating units of Bharat Bill Payment System, and a decision to issue guidelines on Cyber Resilience and Payment Security Controls for Payment System Operators.

While concluding his speech, the RBI Governor warned about heightened economic uncertainty in the global arena. While the RBI may not delay policy rate hikes further, it will do so only ‘gradually’ by constantly observing the impact of war on domestic activity and financial market confidence. If one goes by the market consensus view, majority of the market participants are now expecting a change in the policy stance in June, 2022, and beginning of policy rate hikes from August, 2022.

Rupa Rege Nitsure is Group Chief Economist, L&T Financial Services. Views are personal, and do not represent the stand of this publication.