‘Direct monetisation unlikely to result in inflationary trends’

HYDERABAD: Considering the extraordinary circumstances, the RBI and the government should explore an out-of-the-box solution to manage rising bond yields in a post-Covid scenario, according to SBI Research.

As of now, the government’s total consolidated net borrowings stand at Rs 18.9 lakh crore, of which, even in the best case scenario, the market could absorb only about Rs 13.8 lakh crore leaving a gap of Rs 5.12 lakh crore for RBI to fill in.

The government has also been doing switches at regular intervals and which has been impacting the duration in the market and hence long term yield movements, according to Soumya Kanti Ghosh, Group Chief Economic Adviser, SBI.

“We are assuming that the demand for banks could reach an all-time high of Rs 5.91 lakh crore, but that is clearly contingent on the assumption of almost minimal credit growth in FY21 (less than 5%) and thus banks continuing to hold 27% in SLR,” he said.

According to Ghosh, options in front of the RBI and the government include a further reduction of repo rates by at least another 100 basis points (1%) from the current 4 per cent. “With inflation set to decline precipitously from the current levels to below 3%, average growth during FY21-22 to be less than 1% and given that asset quality of Indian banks as per RBI own study is sensitive to real rates apart from a reservation credit growth, we believe aggressive rate cuts could limit the cost of government borrowings,” he noted.  

Ghosh also recommended that the RBI has to communicate to the market about its comfort level: regarding risk spreads on the 10-year yield and repo rates. “There has been a perceptible decline in money multiplier in the Indian context. Thus, it’s unlikely that a direct monetisation if used as a policy option will have any inflationary consequences,” he noted, adding that rising digital transactions led to a decline in money multiplier changing the composition of households’ savings from currency to others.

Exit strategies in focus
Citing examples of global central banks’ exit strategies, Ghosh pointed to how the Bank of Japan (BoJ) adopted Yield Curve Control in late 2016 pegging yield on 10-year bonds at 0%. However, he added that there were downsides and the exit strategy needs calibration