Monetary policy: RBI to roll back CRR cut in phases, assures liquidity

(We have) now moved beyond pent-up demand to actual demand as the lockdown gets steadily lifted, Shaktikanta Das, RBI Governor | Illustration: Ajay Mohanty
The Reserve Bank of India (RBI) on Friday kept its policy rates unchanged, assured ample liquidity for the bond market, and an 'accommodative' stance for as long as necessary.

After the policy, repo rate (at which the RBI lends to the banks) stands at 4 per cent and the reverse repo rate (at which it takes money from banks) at 3.35 per cent. But the cash reserve ratio (CRR), or the amount of cash that banks are required to maintain with the RBI at zero interest will be scaled back to 4 per cent in two phases. Effective March 27, it will be raised to 3.5 per cent from 3 per cent now, and from May 22, the CRR will be normalised back to 4 per cent. The CRR was reduced by one percentage points last year in view of the Covid crisis, and was due to be rolled back in March this year. 

The bond market was however miffed over the fact that no other additional measures on liquidity were announced to ease the pain of the market, except for extending some past relaxations. The government in the Budget announced Rs 12 trillion of borrowing for the next fiscal and Rs 80,000 crore extra this year. The bond yields have risen at least 15 basis points since then, and the market was expecting that the RBI would be announcing a calendar outlining a huge amount of secondary market borrowing. That did not happen. RBI Governor Shaktikanta Das said the central bank stands “committed to ensuring the availability of ample liquidity in the system and thereby foster congenial financial conditions for the recovery to gain traction.” 

The RBI did extend some relaxations to banks to enable them to invest more in government bonds. The enhanced held-to-maturity (HTM) limit of 22 per cent, from the usual 19.5 per cent, done last year, was extended till March 31, 2023 to include securities acquired between April 1, 2021 and March 31, 2022. Special dispensation on the marginal standing facility (MSF) was extended for another six months. Banks can now deduct credit disbursed to new medium- and small-scale borrowers from their net demand and time liabilities for calculating CRR, in case of lending up to Rs 25 lakh per borrower. The central bank also deferred the implementation of the last tranche of the capital conservation buffer (CCB) of 0.625 per cent to let banks enjoy more capital. 

Banks can now use the funds raised through on-tap targeted long-term repo operations (TLTRO) to lend to non-banking financial companies (NBFC), increasing their liquidity.  

But the CRR normalisation was interpreted as a hike, particularly when the central bank was already normalising its liquidity operations by resuming variable rate reverse repo.  

Upset RBI devolves auction 

The bond market reacted to the normalisation of the CRR rather adversely. Bond yields jumped 6 basis points, and dealers wanted higher yields at the Rs 31,000 crore auctions scheduled after the policy. An irate RBI refused to sell any bond, including the benchmark 10-year and 5-year bonds, and the primary dealers, or the underwriters of the bonds had to buy most of those.  

Seeing a non-flinching RBI, the bond yields cooled down rapidly, and the benchmark 10-year closed at 6.07 per cent, flat from its previous close.  

Senior economists say the reason for the central bank’s displeasure was clear. 

“Tapping into domestic savers for government bonds is probably ten-times bigger than inclusion in a global bond index. Because domestic savers never cause external crisis and is a very stable, potentially inexhaustible, source of funds for the government,” said a senior economist who is consulted by the RBI on various matters. Besides, by letting compensation of HTM category run by one more year, the RBI has potentially opened up another Rs 4 trillion of space for banks to invest in bonds, the economist said.  

“The CRR was reversible, and in all likelihood would be replaced by even more open market operations than last year’s Rs 3 trillion. There have been many other subtler liquidity measures, such as letting the marginal standing facility (MSF) extension for one more year which can be counted in the liquidity coverage ratio, letting fresh MSME lending calculation out of the CRR calculation…the market should not have panicked,” said the economist.  

This way, the RBI addressed next year’s Rs 12 trillion borrowing plan even before the year started, experts said.  

“This RBI is not going to blink, but at the same time, it wants to run in sync with the market towards a common cause, and not against it. The yield tolerance has definitely not increased, and is probably still at around 6 per cent like last year,” another economist said requesting anonymity. 

Growth-inflation 

For now, the six-member monetary policy committee’s (MPC) focus is on reviving growth. The decision on rates and stance was unanimous, the governor said. Given that inflation has returned within the tolerance band, “the MPC judged that the need of the hour is to continue to support growth, assuage the impact of COVID-19 and return the economy to a higher growth trajectory,” he said. 

The RBI projected real gross domestic product (GDP) growth at 10.5 per cent in 2021-22 – in the range of 26.2 to 8.3 per cent in the first half and 6 per cent in the third quarter. Inflation was projected at 5.2 per cent for the fourth quarter of 2020-21, 5.2-5 per cent in the first half of 2021-22 and 4.3 per cent for the third quarter of 2021-22, “with risks broadly balanced.”   

“The RBI’s upbeat views on the economy along with sustained cost-push pressures on inflation fortifies our stance of no rate cuts in the foreseeable future, notwithstanding sustenance of an accommodative stance,” said Tirthankar Patnaik, chief economist of National Stock Exchange.    

In a rare departure, the RBI governor also indirectly told the state and the central government to keep prices, especially that of fuel, into check. 

The government would be reviewing the inflation target mandate of the RBI in March this year, the central bank said. 

The RBI said it will have a comprehensive review of the microfinance sector. According to Chandra Shekhar Ghosh, managing director and CEO of Bandhan Bank, it was more than a decade that the Malegam committee reviewed the framework for MFIs. Since then, the sector has grown substantially. Therefore, a comprehensive review of the sector will certainly be a timely,” Ghosh said. 



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