A day after the Indian government announced about $23 billion of economic package (about 0.9% of GDP) consisting of cash transfers, food subsidy and employment protection, the Reserve Bank of India (RBI) has now added more to the stimulus package. The RBI has reduced policy repo rate and have maintained an accommodative monetary policy without jeopardizing inflation target. These monetary measures are expected to improve liquidity, reduce cost of funds and help businesses. According to the RBI, these measures will help inject an addition 1.8% of GDP equivalent of liquidity (combined with previous 1.4% of GDP from previous measures, the cumulative comes out to be 3.2% of GDP).
Here are the highlights of MPC’s decisions published today:
Policy repo rate, which is the rate of interest charged by RBI on the repurchase of securities, reduced by 75 basis points to 4.4%. It is a mechanism to increase liquidity in the market as commercial banks can now borrow money by selling their security to RBI at a lower rate.
Reverse repo rate, which sets the floor of the liquidity adjustment facility (LAF) corridor, was reduced by 90 basis points to 4%. Reverse report rate is the rate at which RBI borrows money from commercial banks. It is a mechanism to absorb liquidity from the market and lowering reverse repo rate means not limiting liquidity from the market. Banks find it relatively unattractive to park money at RBI if reverse repo rate is lower.
Targeted long-term repo operations: Reserve Bank will conduct auctions of targeted term repos of up to three years tenor of appropriate sizes for a total amount of up to ₹ 1,00,000 crore at a floating rate, linked to the policy repo rate. Exposures under this facility will also not be reckoned under the large exposure framework.
Cash reserve ratio: CRR of all banks has been reduced by 100 basis points to 3% of net demand and time liabilities (NDTL) with effect from the reporting fortnight beginning March 28, 2020 for a period of one year. The requirement of minimum daily CRR balance maintenance has been reduced from 90% to 80%. Available up to 26 June 2020.
Marginal Standing Facility: Increased the accommodation under the marginal standing facility (MSF) from 2% of the statutory liquidity ratio (SLR) to 3% with immediate effect. Applicable till 30 June 2020.
Monetary policy rate corridor: Widened the existing policy rate corridor from 50 bps to 65 bps. Now, the reverse repo rate under the liquidity adjustment facility (LAF) would be 40 bps lower than the policy repo rate, as against existing 25 bps. The marginal standing facility (MSF) rate would continue to be 25 bps above the policy repo rate.
Regulation and supervision
RBI has eased regulation and supervision concerning moratorium on term loans; deferring interest payments on working capital; easing of working capital financing; deferment of implementation of the net stable funding ratio; and the last tranche of the capital conservation buffer.
Moratorium on term loans: The moratorium on term loans and the deferring of interest payments on working capital will not result in asset classification downgrade.
All commercial banks (including regional rural banks, small finance banks and local area banks), co-operative banks, all-India Financial Institutions, and NBFCs (including housing finance companies and micro-finance institutions) (“lending institutions”) are being permitted to allow a moratorium of three months on payment of instalments in respect of all term loans outstanding as on March 1, 2020.
Interest deferment: Lending institutions are being permitted to allow a deferment of three months on payment of interest in respect of all such facilities outstanding as on March 1, 2020. The accumulated interest for the period will be paid after the expiry of the deferment period.
Easing of working capital: Lending institutions are allowed to recalculate drawing power by reducing margins and/or by reassessing the working capital cycle for the borrowers. Such changes will not result in asset classification downgrade
Compliance deferment: Implementation of net sable funding ratio and last tranche of capital conservation buffer are extended by around six months. NSFR reduces funding risk by requiring banks to fund their activities with sufficiently stable sources of funding over a time horizon of a year in order to mitigate the risk of future funding stress. CCB is designed to ensure that banks build up capital buffers during normal times (i.e., outside periods of stress) which can be drawn down as losses are incurred during a stressed period.
Earlier, RBI had also reduced policy repo rate in response to the slowdown in the economy; rolled out USD buy/sell swap auction; purchased in the open market, launched Operation Twist to ensure better monetary policy transmission through open market operation of government securities; engaged in LTROs; and exempted incremental retail loans for MSMEs, residential housing and automobiles from the maintenance of CRR, among others. These were all geared toward maintaining liquidity in the market.
The central bank maintains that the outlook is now heavily contingent upon the intensity, spread and duration of the pandemic. The second advance GDP growth estimate of 5% now looks unfeasible. The intensity, spread and duration of the COVID-19 pandemic will dictate FY2021 outlook (besides the resilience of agriculture and allied activities). However, slump in international crude prices will provide some relief in the external sector.
The EIU has already downgraded India's GDP growth forecast for FY2021 to 2.1% (from 6%).
The weakening aggregate demand and robust agricultural output (notwithstanding the onion price shock) would mean lower inflationary pressures in the economy.