Macroeconomic Situation and recommendations of RBI's first bi-monthly policy of 2015-2016
Macroeconomic Situation and recommendations of RBI's first bi-monthly policy
Question - Economic development depends considerably on effective monetary policy formulation. Discuss the first RBI bi-monthly policy of 2015-2016 in this context.
Assessment of the Macroeconomic Situation
• Moderate, uneven global recovery is the current scenario where economies are supported/buffeted by commodity prices as well as currency fluctuations
• US growth has been weak but it will strengthen while modest improvements are observed in the Euro area
• Growth is positive in Japan in the fourth quarter of 2014 while it is slow in China on account of financial and macroeconomic imbalances
• Global growth is going to expand in 2015 and 2016
• There has been a boost in financial markets on account of normalisation of US monetary policy being assigned to late 2015
• Weak inflation expectations have caused long term yields to decline ; extremely low interest rates have encouraged investors to move towards riskier assets
• Large, volatile movements have been experienced in exchange rates; among emerging market economies, markets are working against those with fragile fundamentals or oil exporters
• National economy has been strengthened in the 4th quarter. Estimates say as high as 17% of the sown area under rabi crop has been impacted by unseasonal rains in March
• Industrial sector, specifically manufacturing is slowly gaining a boost; While basic goods production has been expanding at a steady rate, capital goods output is volatile
• Services sector is a mixed bag with national accounts statistics indicating consumption demand for services is strong in relation to demand of goods.
• Retail inflation has firmed up for the third time in a row while still elevated prices of protein rich items have kept food inflation from falling. Fuel inflation is up for the second month in the row.
• Inflation to the exclusion of food and fuel fell in the 9 months leading up to February
• Upside pressures affecting prices of services have lowered because of weak demand conditions
• Growth of rural wages have fallen substantially from double digit growth in 2013
• RBI is also working to ensure easy liquidity conditions through proactive liquidity management to smoothen liquidity frictions involving events such as advance tax payments and balance sheet dates
• Export performance has been weakening since December 2014 and a heavy toll has been taken in many other EMEs across Asia as well; gold imports remain contained
• Export of services specifically software and travel have experienced some resurgence and held down CAD/current account deficit which narrowed in the third quarter
Recommendations of First Bi-Monthly Monetary Policy 2015-2016
RBI has assessed the present and evolving macroeconomic situation to arrive at the following recommendations:
• Policy repo rate has been kept untouched at 7.5% under the LAF/Liquid Adjustment Facility
• CRR/Cash reserve ratio of scheduled banks has been kept unchanged at 4.0% of net demand and time liability/NDTL
• Liquidity is provided under overnight repos at 0.25 per cent of bank wise NDTL at LAF repo rate
and liquidity under the terms of 7 days and 14 days repos of 0.75% of NDTL of banking system via auctions
• The apex bank has also decided to persist with daily variable rate repos and reverse repos to smooth liquidity
• The reverse repo rate under LAF is pegged at 6.5% while Marginal Standing Facility rate and Bank Rate are placed at 8.5%
The apex bank will also formulate scheme for market making via primary dealers in semi-liquid and illiquid G-secs
• RBI has phased implementation of Liquidity Coverage Ratio/LCR from the start of 2015 and it is committed to scheduled implementation of Net Stable Funding Ratio/NSFR from 2018 for Indian banks
• Guidelines on Countercyclical Capital Buffer/CCCB were issued on February 5, 2015.
• Banks will invest in bonds issued by other banks subject to various conditions such as investment will not be treated as asset for calculating NDTL and so on
• For independent benchmark administration, The Financial Benchmarks India Pvt. Ltd., jointly floated by the Fixed Income Money Market and Derivatives Association of India (FIMMDA), the Foreign Exchange Dealers' Association of India (FEDAI) and the Indian Banks’ Association (IBA), has been established
• RBI had also prescribed a comprehensive and complete Calendar of Reviews for deliberation by boards of banks ; this will be replaced by 7 critical themes of the Nayak Committee namely business strategy, financial reports and their integrity, risk, compliance, customer protection, financial inclusion and human resources,
• Renumeration for non executive directors was also finalised
• State cooperative banks were also provided certain eligibility criteria to meet for setting up offsite/mobile ATMs
• RBI has aimed to promote liquidity in G-sec/government securities market as recommended by Working Group on Enhancing Liquidity in the Government Securities and Interest Rate Derivatives Markets
• RBI will also formulate a scheme for market making by primary dealers in the context of semi liquid and non liquid G-secs
• Alternate e-Distribution channels have been established for G-secs by the RBI
• RBI had formed an international working group on priority sector guidelines which has recommended specific sub-targets for small and marginal farmers as well as MFIs
• Provisions of the Mor Committee for revising limit relating to indebtedness of borrowers was also taken into consideration
• Separate category of NBFC called NBFC infrastructure debt fund was formed
Facts and Stats
• In 2015, inflation path has evolved around projected path following undershooting of the January 2015 target
• CPI inflation projected in current levels in the Q1 of 2015-2016 moderating to around 4% by August firmed up to reach 5.8% at the close of the year
• Transmission of policy rates to lending rates has eluded the economy despite weak credit off take and front loading of as many as 2 rate cuts
• Monetary Policy Framework Agreement will shape the monetary policy in 2015-2016 and CPI inflation has been targeted at 6% by January 2016 and 4% by 2017-2018
• There is gradual improvement in the state of liquidity in the economy causing banks to transmit recent reductions in policy rate to ending rates and improve financing for economy’s productive and growth oriented sectors
Key Highlights of the RBI first bi-monthly monetary review 2015-2016 are as follows
- Cash Reserve Ratio left at 4%.
- Retains Statutory Liquidity Ratio unchanged at 21.5%.
- Estimates GDP growth at 7.8% in FY’16, a rise from 7.5% in FY’15 .
- Forecast of CPI inflation at 5.8 pc by the month of March 2016.
- 100% CPI inflation to fall to 4% in the month August 2015.
- Hailstorms and rain in March affected close to 17% of the rabi crop sown area.
- Further rate cuts are associated with reduction of interest rates by banks
- Following US Federal reserve action, India will deal with volatility more effectively