Controlling liquidity

The first bimonthly monetary policy review of the Reserve Bank of India (RBI) in the new fiscal year was out on Thursday and it was on expected lines save for the apex bank’s surprise decision to hike reverse repo rate by 25 basis points to six per cent. It’s obvious that this move is aimed at purging excess liquidity from the system.

As widely expected, the apex bank kept key interest rate i.e repo rate or repurchase rate unchanged at 6.25 per cent. Repo rate is the interest rate at which RBI lends funds to banks. Guided by the six-member Monetary Policy Committee (MPC) that deliberated on key issues for two days and came up with unanimous decisions, RBI also maintained status quo on cash reserve ratio (CRR) which stood at 4 per cent.

The main contours of the policy review revolved around the tools to control liquidity in the system and see that excess liquid would not stoke inflation. The 25-bps hike in reverse repo rate – the interest rate at which RBI borrows funds from banks - appeared as the first line of defence for RBI against excess liquidity as banks would be encouraged to park more funds with it.

As per RBI estimates, there was an excess liquidity of Rs 3.14 lakh crore in the system by March-end. Banks are flush with funds post-note ban, but credit offtake remains remain sluggish, resulting in surplus cash. In another move, RBI also reduced rate on marginal standing facility (MSF) by 25 bps or 0.25 to 6.5 per cent. Banks use this facility to borrow from the central bank in times of emergency when liquidity dries up.

On the other hand, there is a big positive takeaway for realty sector from the policy. In a move that will boost the realty, RBI has allowed banks to invest in real estate investment trusts (REITs) and infrastructure investment trusts (InvITs). This will not only come as boon for the realty and construction segments, but also for housing finance companies which will have more funds at their disposal.

On the macroeconomic front, the apex bank has retained GDP growth forecast at 7.4 per cent for the current fiscal year, with risks ‘evenly balanced.’ It is of the view that the remonetisation exercise will boost consumer spending, spurring economy. But RBI sees upside risks to retail inflation on account of GST implementation and also due to uncertainty around the south-west monsoon. For the current fiscal, it forecast 4.5 per cent inflation in the first-half and 5 per cent in second, significantly higher than the earlier projection of 4 per cent.

RBI Governor Urjit Patel also pointed out higher fiscal deficit in India compared to global standards, and warned that it would increase inflation risk. He wants check on loan waivers too as such freebies not only pose moral hazards, but also discourage honest credit culture, further increasing deficit. Patel’s comments assume significance in the wake of farm loan waiver announced by BJP’s UP government, but will our netas listen?