She said the advantage is that it can work against rising bond yields. If the yields on the government bonds themselves rise, it would hike the costs of raising funds, she said.
However, the move also has disadvantages, Varma said. The RBI is kept out of directly monetising the government's fiscal deficit
because it may give rise to unproductive spendings. Also, it would lead to higher inflation over a period of time, though not immediately, she said.
Sajid Chinoy, chief India economist at JP Morgan, said: “Unless bond purchases are to sterilize foreign exchange sales or offset currency in circulation, they will add to inter-bank liquidity which—at some point – will make it more challenging to anchor short end rates.”
As such, monetary authorities will tend to loosen regulation as inter-bank rates get reduced.
Monetising the government fiscal deficit
means RBI directly purchases government bonds in the primary market and prints notes to finance the government debt.
Santanu Sengupta, chief treasury economist at Reliance Industries, said there needs to be some kind of clarity on fiscal deficit.
However, Chinoy said it is not realistic to say what will the fiscal deficit be with so much of uncertainty around the economy.
To a query over financing current account deficit, Sengupta said that fortunately, this deficit is not an issue now. Expectations are that there would be current account surplus or current account deficit of just 0.5 per cent in 2020-21 due to fall in oil prices.
However, a fall in oil prices would hit India through another route, he said. Oil countries employing Indians may not be able to do so adequately and as such remittances will be hit.
Varma said while external finances are on India's side, vulnerabilities of the financial sector are a worry.
Experts say that while fiscal and monetary policies are important, the most relevant thing in today's circumstances is the constant fight against Covid-19.