Monetary policy: Growth, jobs bigger concerns than inflation

Indian economy
Private investment has not picked up despite Indian economy's stellar performance on the growth front, prompting the government to prod corporates to take the plunge.

Monetary policy review: The second wave of Covid-19 came as a big shock to the economy. The impact of the second wave that peaked in May meant that the first quarter of financial year 2021-22 is almost lost. The severe uncertainty prevailing in the current year is absolutely immeasurable. More so now, given that Maharashtra has reported the beginning of the third wave with nearly 8,000 children infected in a single district.

The government expected the third wave to hit the country in another 20-30 weeks. The second wave has hit the hinterlands of the country and the rural population has been impacted. The third wave is expected again to impact both urban and rural areas. If the third wave comes into play around September-November, then the uncertainty increases more because that is the busy season for the economy. A lot of economic activity take place post-monsoon in manufacturing and construction sectors.

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Inflation is no long-term concern

So, the uncertainty in general and for particular sectors is extremely large. The double-digit WPI inflation need not be a long-term phenomenon and should not be a major topic of discussions in RBI’s monetary policy deliberations. If the long-term WPI and CPI trends are analysed, one could see that they are within the comfort zone. The monthly data of manufacturing, especially the IIP, reveals that the performance is better in March 2021 compared with March 2020, despite the uncertainty associated with the pandemic.

The eight core industries have done reasonably well in the recent months, but there may be some dents due to the second and third waves. The main point is that the industry is waiting for a leg-up. Even if a small window opens up, the manufacturing, mining and electricity sectors will boom. The monsoon is predicted to be normal and, therefore, the agriculture sector should continue on its steady growth.

The banking trends are mixed as credit flow to the economy is slow. According to the recent RBI Annual Report, the provision coverage ratio is much higher at 88% for the period ending December 2020, compared with 81% in March 2020. The capital to risk weighted ratio has increased to 15.9% from 14.8%, which is positive. The growth in investments in G-Sec’s has almost doubled from the year before, rising to nearly 20% from 10% a year ago.

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Growth the key monetary policy goal

The return on assets is positive in December 2020 compared with the previous year. As it stands now, the banking sector is performing reasonably well under the supervision of the RBI. Looking ahead, with the second wave in the April-June quarter, there is a fear because of the credit offtake would not have improved again. The slowdown in the economy basically due to the lockdown could impact the balance-sheet of the banks.

The RBI will have to go in for provisioning and extending the accommodative stance, and continue with its liberal policies where it has accommodated the commercial banks in the previous year. If the third wave hits in the busy season, the RBI will have to be far more aggressive in taking care of the banking sector. The RBI may also have to take additional care of the NBFC and MFIs.

To conclude, the fiscal situation in the country will be under stress in the current financial year because of the lockdown. An accommodative fiscal policy needs to be announced to take care of various sectors. The time has come to borrow more aggressively from the market that can have interest rate implications, or go in for monetised deficit. In any case, it is a challenge in the current fiscal year, but the Fiscal Responsibility Budget Management Act can be given a pause.

The RBI should continue its accommodative monetary policy. The rates of interest in the advanced countries such as the US, Australia, UK and Euro zone hover around 0%. The inflation in these countries also is low. On the aspect of growth, RBI should signal that growth and unemployment are bigger concerns than inflation, given the mandate of the Union government. Therefore, a reduction in the Repo rate by 25 basis points can be considered when the economy is on the verge of the third wave.

(Dr Charan Singh is CEO, EGROW Foundation, a Noida-based think tank.)

Charan Singh, Former RBI Chair Professor, IIM Bangalore
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Dr Charan Sigh is a Delhi-based economist. He is the chief executive of EGROW Foundation, a Noida-based think tank, and former Non Executive Chairman of Punjab & Sind Bank. He has served as RBI Chair professor at the Indian Institute of Management, Bangalore.