RBI Policy and reduction in repo rate

Reserve Bank of India (RBI) has cut the benchmark repo rate by 50 basis points to 6.75 percent, while keeping the CRR and SLR unchanged at 4 percent and 21.5 percent respectively. The Central bank has been able to reduce the repo rate because it believes that it is not inconsistent with the inflation target that it has set for itself under a written agreement with the Narendra Modi government, when it came to power.

Consumer inflation was at a record low of 3.66 percent in August and stable over the last few months and looks to undershoot the government’s projection of 6 percent by January 2016. The Central Bank has praised the government’s proactive management of food supplies to rein in inflation and also notes that food grain output is expected to be higher than last year despite poor monsoon because of timely advisories and regular monitoring of seed and fertilizer availability by the government.

RBI Governor, Raghuram Rajan has said that the rate cut should not be seen as a Diwali gift but was underpinned by changing ground realities where he expects the inflation to be under control in the coming days. It is pertinent to note that, he also thought it prudent to remind us of the fact that our economy has legacy problems from the past that needs to be dealt with first, to put it on a firm footing. This also points towards the fact that, UPA has lot to explain.

The rate cut is expected to provide significant support to the economy. The RBI and the Government have decided to work together to ensure that the cumulative rate cut of 125 basis points is transmitted to the wider participants to the maximum extent possible, something that is elusive to some segments.

The stance of RBI on rate cut has also done a lot of good to its credibility. By steadfastly refusing to cut rate under vociferous demand for it previously because it believed that the conditions were not right and now cutting it by an unexpectedly large 50 basis points because the threat of inflation reading its head again has considerably abated, the RBI has made it amply clear that it will apply its own mind when it comes to inflation targeting. This also makes its fight against inflation more credible and to the extent managing inflation is managing future expectations about price, the battle is already half won by the RBI. Managing future expectations about price is an important for managing inflation in economic parlays.

The steps reflect our movement towards low interest rate regime. The decision of relaxation in Foreign Portfolio Investment (FPI), will make about 1.2 lakh crores available with the Govt. for investment over the next 5 years. This will lead to demand creation for the private sector catalyzing economic growth. Similarly private sector can also go for External Commercial Borrowing (ECB) at low international interest rates.

Now is the right time for the Government to capitalize on the rate cut and work towards its transmission to boast economy and move quickly on other administrative and legislative reforms. It’s for us to lay down a strong foundation for future growth of the economy and realize the true potential of being a bright spot in global economic arena.

Gopal.agarwal@bjp.org