-Bhavesh Gupta, Neha Mittal and Kashish Arora (Class of 2022, IBS Hyderabad)
‘In the midst of darkness light persists’
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Background Note:
Monetary Policy Committee was formed by the Central Government of India under Section 45Z of the RBI Act that was altered in 1934, through the Finance Bill 2016. The first meeting by the MPC was held for two days on October 3 and October 4, 2016. The main objective is to maintain the price stability and manage the size and growth rate of the money supply in an economy. Monetary policy targets in influencing the economic activities mainly through two major parameters given below:
- Credit supply, and (b) the rate of interest.
Establishment & Purpose:
Prior to the formation of the MPC, a Technical Advisory Committee (TAC) on monetary policy with experts from monetary economics, central banking, financial markets and public finance advised the Reserve Bank on the stance of monetary policy. However, its role was only recommendatory in nature.
The fixing of a committee to make a decision on Monetary Policy was first proposed by Urjit Patel Committee. The Committee recommended a five-member MPC – three members from the RBI and two nominated by the government. The Government originally suggested a seven-member committee – three from the RBI and 4 nominated by it. Subsequent arbitrations led to the current composition of the committee, with the external members having a four-year term and it came into force on 27 June 2016.
Figure 1 – Hierarchy of the Monetary Policy Committee.
In the above figure, Yellow denotes the members of Reserve Bank of India and Blue denotes the members appointed by the Government of India.
Objectives:
The objectives of monetary policy are concerning the deployment of monetary resources under its control for the aim of achieving GDP growth and lowering the rate of inflation. The crucial roles connected to monetary policy are:
- PRICE STABILITY: The primary objective of monetary policy is to maintain price stability through open market operations. Price Stability implies avoiding prolonged inflation or deflation while keeping in mind the objective of growth.
2. EXCHANGE RATE STABILISATION: Nations, specifically the developing mixed economies strive to achieve Exchange Rate Stabilization. This is done by the process called Pegging of Currency.
3. FASTER ECONOMIC GROWTH: Economic growth means utilization of all the productive natural, human and capital resources in such a manner as to ensure a sustained increase in national and per capita income over time. Monetary policy promotes sustained and continuous economic growth by maintaining equilibrium between the total demand for money and total production capacity and further creating favourable conditions for saving and investment.
4. FULL EMPLOYMENT: Full employment means absence of involuntary unemployment. Monetary policy influences on rise in prices and study the economy wide demand for goods and services which therefore gives, an edge to the employees who produce those goods and services majorly through its influence on the financial conditions faced by firms.
Instruments:
Monetary policy instruments are of two types: qualitative instruments and quantitative instruments. The types of quantitative instruments incorporate Open Market Operations, Bank Rate, Repo Rate, Reverse Repo Rate, Cash Reserve Ratio, Statutory Liquidity Ratio, Marginal standing office and Liquidity Adjustment Facility (LAF). Qualitative Instruments focus on particular sectors of the economy , change inside the margin money and moral suasion. The instruments recorded above are overseen and controlled according to the necessities of the nation’s economy. These instruments are viably used so as to ensure the money gracefully inside the economy all together that the pace of expansion is settled to comprehend financial cycle. Refer to Exhibit 1.
| Instruments | August 2020 | May 2020 | March 2020 |
| Repo Rate | 4% | 4% | 4.40% |
| MSF & Bank Rate | 3.35% | 3.35% | 4.65% |
| Reverse Repo Rate | 4.25% | 4.25% | 4% |
Exhibit: 1 – Rates as on August, May and March
Meetings of Monetary Policy Committee
23rd Meeting of MPC ( 20th May 2020 to 22nd May 2020)
Figure 3 – Highlights of 23rd Meeting
The 23rd meeting of MPC was held from May 20 to May 22, 2020. The meeting was earlier scheduled from June 3 to June 5, 2020, but was advanced because of the ongoing COVID – 19 pandemic. The meeting was attended by all the members and was chaired by Shaktikanta Das, Governor.
I.To Improve the Functioning of Markets:
– Refinancing Facility for Small Industries Development Bank of India:
RBI has announced a special facility of Rs 15 Cr for refinancing. So as to give more flexibility to SIDBI in its activities, it has been chosen to roll over the facility towards the finish of the 90th day for another period of 90 days.
II. Exports and Imports:
– Export Credit:
It has been decided to increase the reasonable time of pre-shipment and post-shipment trade credit authorized by banks from the current one year to 15 months, for payment made up to July 31, 2020.
– Liquidity Facility for Export Import Bank of India (EXIM):
It has been chosen to broaden a credit extension of Rs.15,000 Cr to the EXIM Bank for a time of 90 days from the date of availment with rollover up to one year in order to empower it to benefit a US dollar trade office to meet its unfamiliar trade necessities.
– Extension of Time for Payment for Imports:
Taking into account the disturbances due to COVID-19 pandemic, it has been chosen to expand the time span for consummation of settlements against such ordinary imports.
III. Measures to Ease Financial Stress:
– Moratorium on Term Loan Instalments: Due to the extension of lock down, RBI has decided to permit lending institutions to extend the moratorium on term loan instalments by another three months, i.e., from June 1, 2020 to August 31, 2020.
– Deferment and Payment of Interest on Working Capital Facilities:
Working capital facilities that are in the form of credit, lending institutions are permitted to allow a suspension of next three months, from 1st June 2020 to 31st August 2020.
– Easing of Working Capital Financing:
Lending institutions are allowed to revaluate the working capital cycle of a borrowing entity up to an extended period till March 31, 2021.
IV. Debt Management:
– Consolidated Sinking Fund (CSF) of State Governments:
The Relaxation of withdrawal standards for CSF for the period till FY21-end will deliver an additional Rs 13,300 Cr, which is relied upon to enable the states to meet about 45% of their recovery commitments for the financial.
24th Meeting( 04th August 2020 to 06th August 2020)
The 24th meeting was the second meeting for the year 2020 and was held from August 4 to August 6, 2020. MPC completed four years of its operations under the new monetary policy framework. This meeting was attended by all the members and was chaired by Shaktikanta Das, Governor. This meeting is the last meeting with the current members of MPC.
24th Meeting:
I. Liquidity Management and Financial Markets:
– Liquidity facility for National Housing Bank and NABARD:
Under this an additional special liquidity facility of Rs 10,000 Cr, has been announced. Out of which Rs 5000 Cr has been distributed for National Housing Bank and the other Rs 5,000 Cr have been assigned for NABARD.
– Introduction of a Flexible Automated Option for Managing CRR Balances:
To provide eligible LAF/MSF participants greater flexibility in managing their day’s end CRR balances, the Reserve Bank has chosen to give an automated sweep-in and sweep-out (ASISO) facility in its e- Kuber system.
II. Regulation and Supervision:
RBI stays committed to take any further steps necessary while simultaneously remaining completely dedicated to keeping up financial stability.
– Restructuring of MSME debt:
Perceiving the requirement to help MSMEs, it has been concluded that lending institutions may restructure the debt for borrowers facing stress due to the economic fallout. The restructuring shall be implemented by March 31, 2020.
– Advances against Gold Ornaments and Jewellery:
Loans and advances against gold Ornaments and Jewellery for non-agricultural purposes can be endorsed up to 90%, earlier the number was 75%, among different measures.
– Capital Charge for Market Risk:
RBI has decided that the general market risk of 9 per cent will continue to be applied. This will result in capital savings for banks and is meanwhile give a boost to the bond market.
III. Flow of Credit:
– Review of Priority Sector Lending Guidelines:
These guidelines were last reviewed in April 2015. The revised guidelines aim to encourage environment friendly lending policies to help achieve Sustainable Development Goals (SDGs).
IV. Digital Payment Systems:
– Scheme of Offline Retail Payments:
Lack of internet facilities or connectivity issues especially in remote areas is a major problem for adopting digital payments. RBI has encouraged in developing offline payment methods. They even allowed a pilot scheme for small value payments in off-line mode for safeguarding interest of users.
– Online Dispute Resolution (ODR) for Digital Payments:
As digital transactions are rising, there is an increase in disputes as well. Based on the rising disputes and grievances, RBI has extended the ODR arrangements.
– Positive Pay Mechanism for Cheques:
Cheques will be handled for instalment by the drawee bank dependent on data passed on by its client at the hour of issuance of check. This measure will cover roughly 20 percent and 80 percent of all out cheques gave in the nation by volume and worth, separately.
– Creation of Reserve Bank Innovation Hub:
RBI has decided to set up an innovation hub to promote innovation across the financial sector by leveraging on technology. It will act as a centre for formation of ideas to create innovative and viable financial product or service to achieve the wider objectives.
Analysis:
RBI noted that the economic activity had began to recover the lows of April-May.
Regarding the RBI’s outlook for the economy, the MPC has assessed that the headline inflation will remain elevated in the second quarter of FY2020-21. It expects inflation to moderate in the second half of FY2020-21, though uncertainty remains. In terms of growth projections, the committee expects real GDP growth to be negative in FY2020-21. The MPC did not provide any forecasts for inflation and growth.
Keeping the key policy rate unchanged seems prudent, given the uncertainty on the inflation front and the fact that the RBI has provided significant accommodation in the recent months. Two emergency rate cuts of 115 bps before have not helped considerably to encourage borrowers to borrow more. The non-food bank credit growth at 6.7% in June 2020, is still lowest in around three years. Since at this stage, the level of economic activity is largely constrained by the spread of COVID-19 infections, another rate cut wouldn’t have helped in reviving economic activity substantially.
Conclusions:
- The repo rate has been kept continuing at 4 percent. Consequently, the reverse repo rate under the Liquidity Adjustment Facility (LAF) remains unchanged at 3.35 percent and the marginal standing facility (MSF) rate and the bank rate at 4.25 percent.
- It was suggested that the headline inflation may remain aloft in Q2FY21, but may abate in the second half of the year (H2FY21) aided by large favorable base effects.
- Restructuring of loans for stressed MSME borrowers in view of COVID-19 and cash flow disruption.
- An additional special liquidity facility of Rs 10,000 Cr will be provided to NABARD and NHB. Also Rs 5,000 Cr will be provided to reduce the stress being faced by smaller non-bank finance companies and micro-finance institutions in attaining access to liquidity.
aashima aggarwal
Analysis 👏
Prayaas_IBS
Thank You 🙂