November 2, 2002
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Money > Column > R C Murthy November 2, 2002 |
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Jalan does a balancing act
After the instrument of deferred bank rate change the RBI Governor Bimal Jalan introduced last April, here comes the unprecedented -- at least by Indian standards -- quarter percentage point bank rate cut to 6.25 per cent.
Or is it a case of keeping up with the Joneses? The US Federal Reserve Chairman Alan Greenspan has been manipulating the discount rate there by bits and pieces. So why not here? Very unlikely. Jalan is the last man to resort to such gimmicks. There must be compelling reasons for opting for such cuts and raise eyebrows. Jalan knows well that sentiment drives, and that propulsion is important. He is also well aware that it is good to be on the right side of the powers that be. The market has been praying for lower bond rates. It may have been neutral insofar as the bank rate cut is concerned. But banks have been expecting a bigger rate cut though it has not been in favour of a cash reserve ratio reduction. By cutting all the three by a quarter per cent, Jalan may have redeemed his April pledge and hit three birds with one stone. Secondly, he has tried to please his new political master, who is keen to carry forward the economic reforms. Lastly, he has tried to pander to the market sentiment. Otherwise, he would have faced a bond market storm. Apparently, he is signalling to the markets that he is willing to toe their line. He has gone half-way to meet the market's expectations, which were at least 0.5 per cent or 50 basis points cut in the bank rate. The bond market jumped with glee. But for those political and other objectives, it is a shot in the dark. The annual credit policy was designed for 6-6.5 per cent gross domestic product growth. But the projection is now lowered mid-way after the drought The new GDP projection is one percentage point lower than April's. In fact, this year's GDP growth will be down from last year's 5.4 per cent. Foodgrains production will be down by five per cent. The silverlining is that exports have risen by 13.4 per cent in the first five months this fiscal and the composite production index of six infrastructural industries is up by 6.0 per cent in the first half this year. These increases do not set off the fall in farm output because of the latter's higher weightage in GDP. That means to that extent funds banks earmarked for lending will be idle. Even within the five-sixths of this year's GDP, there will be some redirection from agriculture to the industry. The rechanelling will be, of course, less problematic since industry is more organised than agriculture to absorb bank credit. Therefore, the liquidity with banks will be far in excess than projected six months ago. On top, they will now be saddled with the funds released by the cash reserve ratio cut. This excess liquidity will certainly have an adverse impact on prices. What kind of a credit policy is this? Had there been proper macro planning, a CRR cut at this jucture is not necessary. Perhaps, the RBI may have the busy season demand in view while opening the additional resources tap right away. The existing liquidity with banks plus the deposit flows should take care of even the enhanced credit needs over the next six months because of the industrial turnaround. In any case, the mid-season review in January should have helped to correct the anomalies in credit flows, if any.
The SBI apparently sees another bank rate cut coming in April. Obviously, it has read between the lines of the RBI announcement that there will not be any further changes in the bank rate this fiscal. Being proactive will help. Its cost of funds will be lower and that is a great advantage in times of surplus liquidity. Attracting deposits, however, does not make sense for banks now. In fact, with the phased cuts in CRR to the statutory three per cent from the present 4.75 per cent over the next couple of years, wise banks will try to keep the depositors away. Else, they will continue to be saddled with excess funds. But the Reserve Bank is keen on introducing floating rates with which the savers should get familiarised. But there are structural rigidities. In a scenario of falling interest rates, the depositor would like to lock in at current rates. If only he perceives the rates are taking a U-turn, he will opt for floating rates. That stage is yet to come. At the grass-root level, banks too do not encourage floating rates because of the increased paper work. They recommend medium-term deposits, say three years, to get over the uncertainties. From the banker's point of view, that will obviate the half-yearly calculation. Certainly, the individual saver is in an unenviable situation. The rates offered by established and strong banks are unattractive and the relatively high rates offered by other banks carry risks. He will have to compare the rates of banks within the banking industry, say the SBI, which has built into the deposit rates an element of future fall of bank rate, with Bank of India and Bank of Baroda, which have yet to discount the bank rate fall in the immediate future and the cooperative urban banks, which have high non-performing assets and low capital adequacy. There are other options like nine per cent postal deposits upto Rs 300,000, short-term Bima Nivesh, tax-free RBI Relief Bonds and finally high-risk mutual funds. The individual saver will have to be articulate and more vigilant than in the past. ALSO READ:
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In the last 40 years, the Reserve bank of India has never opted for such a small and insignificant cut. The feeling all along has been small changes either way would not work because of the leads and lags of the Indian economy. Jalan may just have tried to fulfill the 
and some signs of 
The hardboiled individual participants in the market read the signals in their own way. The bond market, for instance, has welcomed. But banks are looking at the changes in their individual perspective. The