NPA fears and risk-averse banks may come in the way of RBI support for MSMEs, contact-intensive sectors

The Reserve Bank of India’s monetary policy committee (MPC) meeting came at a critical time with the economy dealing with the second coronavirus wave. In an expected move, MPC maintained status quo on policy rates and decided to continue with accommodative stance.

The second wave has hit the economy as most states imposed lockdowns and other restrictions. In this background, even though the inflation debate and the need for normalisation of monetary policy is getting stronger, Governor Shaktikanta Das assured that the RBI would continue with the accommodative stance as long as it was necessary to revive and sustain growth.

Growth, inflation outlook

With the onset of the second wave, various rating agencies have downgraded India's GDP growth rate. The RBI also revised downwards the growth rate to 9.5 percent for FY22, which looks credible as the economic activities in the first quarter have been seriously impacted.

As pointed out by Das, urban demand moderated during April-May, captured by various high-frequency indicators.

Consumption is the backbone of the Indian economy, accounting for more than 50 percent of India's GDP. Thus, with the consumption demand lagging, it could pull down the overall GDP. In FY21, when the consumption demand contracted by 9.14 percent, GDP registered a contraction of 7.25 percent.

The governor also cautioned about higher crude and commodity prices that could build inflationary pressure on the economy. Supply side disruptions due to the lockdown restrictions can be a spoilsport as well. Yet, the RBI kept the inflation rate at 5.1 percent for FY22.

G-SAP, support for state governments

The RBI announced government securities acquisition programme (G-SAP) 2.0 for Q2FY22 at Rs 1.2 lakh crore. It shows RBI's commitment to keep the bond yields in check, which could support the borrowings of both the government and corporates. In addition, state development loans (SDLs) have been included in the G-SAP.

COVID-19 pandemic has deteriorated the fiscal condition of state governments as the revenue mobilisation was weak. In this context, inclusion of SDL in G-SAP would support the market borrowings of state governments.

Liquidity support measures

To support the funding requirements of MSMEs, a special liquidity facility of Rs 16,000 crore has been extended to the Small Industries Development Bank of India (SIDBI).

Similarly, RBI announced an on-tap liquidity window of Rs 15,000 crore for contact-intensive sectors. Under this scheme, banks can provide fresh lending support to these sectors and as an incentive, banks will be allowed to park the surplus liquidity up to the size of the loan book created under this scheme through the reverse repo window. Yet, the fear of rising NPAs and risk-averse nature of banks could act as an impediment. For instance, bank credit growth in March 2021 decelerated to 5.6 percent YoY.

Das also touched upon the volatility in the financial market due to the capital inflows. The RBI has been actively participating in the forex market to ensure stability. In light of the developments in the global economy, more such actions from the RBI would be necessary in the coming days.

In his address, the governor clearly signalled RBI's commitment to bringing the economy back on the growth path and reiterated that the MPC would be following a state-based rather than time-based forward guidance.