RBI keeps policy rates unchanged, says the worst is over for the economy

The monetary policy committee (MPC) of the Reserve Bank of India (RBI) kept policy rates unchanged, and the governor assured that the worst was possibly over for the economy and it can now hope for steady recovery towards pre-pandemic growth rates.

The newly-appointed six member MPC voted unanimously to keep the policy repo rate at 4 per cent, and said the real gross domestic product (GDP) growth rate in 2020-21 could be a negative 9.5 per cent, with “risks tilted to the downside.”

The stance of the policy would remain “accommodative,” for “as long as necessary – at least during the current financial year and into the next year – to revive growth on a durable basis and mitigate the impact of Covid-19, while ensuring that inflation remains within the target going forward,” RBI governor Shaktikanta Das in his streamed monetary policy address on Friday morning.

The RBI governor also assured adequate liquidity support for the bond market, including promise of more open market operations (OMO) through which the central bank buys and sells bonds from the market. For the first time, the RBI will also conduct OMO on state development loans, or bonds issued by states, to contain their spreads over equivalent maturity government securities. The RBI governor urged to cooperate with the central bank on conducting the centre’s and states’ borrowing programme, and said the RBI and the bond market can be “competitive without being combative.”

The shorter and longer tenure bonds rallied. The 10-year bond yield fell 8 basis points to 5.937 per cent, while the three-year bond yield fell 16 basis points.

The breakup given was the GDP of negative 9.8 per cent in the second quarter ended September, negative 5.6 per cent for the third quarter ended December, and a positive 0.5 per cent in the fourth quarter ended March. The economy contracted by a record 23.9 per cent in the first quarter ended June.

“Today, there is a turn in the wind, which suggests that it is not imprudent to dream of a brighter tomorrow even in the bleakest of times,” Governor Shaktikanta Das remarked.

The policy statement said that the MPC was of the view that “revival of the economy from an unprecedented Covid-19 pandemic assumes the highest priority in the conduct of monetary policy.” Inflation will be under control in the second half of the fiscal, and therefore, it can be looked through for now.

Several high-frequency indicators are pointing to the easing of contractions in various sectors of the economy and the emergence of impulses of growth, the governor said.

“By all indications, the deep contractions of Q1:2020-21 are behind us; silver linings are visible in the flattening of the active caseload curve across the country. Barring the incidence of a second wave, India stands poised to shrug off the deathly grip of the virus and renew its tryst with its pre-Covid growth trajectory,” RBI governor Shaktikanta Das said, adding, “the focus must now shift from containment to revival.”

The governor said, the economic recovery would likely to predominantly be a “three speed recovery,” with individual sectors showing varying paces, depending on sector-specific realities. Sectors that have shown resilience to the pandemic, and are labour intensive will be the first to recover. These include agriculture and allied activities; fast moving consumer goods; two wheelers, passenger vehicles and tractors; drugs and pharmaceuticals; and electricity generation, especially renewables,

Some sectors would open up gradually, while the third category are facing ‘slog overs’, “but they can rescue the innings.” These are the sectors most severely affected by social distancing and are contact-intensive, the RBI governor said.

The rural economy has remained resilient, and early indications suggest food grain production is set to cross another record in 2020-21.

The inflation too, should start to come within the target 2-4 per cent from the third quarter, the RBI governor said, as against 6.7 per cent recorded during July to August. The MPC projected CPI inflation at 6.8 per cent for the quarter ended September, 5.4-4.5 per cent for the second half of the current financial year and and 4.3 per cent for the first quarter of the next fiscal, “with risks broadly balanced.”

“While inflation has been above the tolerance band for several months, the MPC judges that the underlying factors are essentially supply shocks which should dissipate over the ensuing months as the economy unlocks, supply chains are restored, and activity normalises. Therefore, the MPC decided to look through the transient effect of the inflation and decided to pause.

The central bank also took several policy measures and assured the bond market participants that liquidity will be ample. Apart from the OMO support, the central bank also allowed banks to tap funds under targeted long term repo operations (TLTRO) on-tap, provided these funds are used to buy bonds pertaining to specific sectors that need funds.

To enhance credit flow, the central bank tweaked the retail lending norms and said the risk weights will now be adjusted based on the loan-to-value ratio and not the ticket size of the loans.