The Hindu Business Line : Mid-Year Review of the Annual Credit Policy

Opinion - Credit Policy
Industry & Economy - Economy
Money & Banking - Insight

Mid-Year Review of the Annual Credit Policy — Managing inflation, encouraging growth

S. Venkitaramanan

While the RBI Governor, Dr Y. V. Reddy, has left alone the interest rate structure and liquidity controls, though his raising the reverse repo rate will have implications on some short-term lending rates. The Quarterly Review reflects the Government's concern about the fiscal insulation of oil price increases from the consumer, and highlights the need to encourage credit to the agricultural and SME sectors as well as to NBFCs. Overall, the Policy has met the twin requirements of inflation management and growth impulses.

A little tinkering is expected to go a long way, the RBI Governor, Dr Y. V. Reddy seems to say. - Paul Noronha

AS EXPECTED, the Reserve Bank of India Governor, Dr Y. V. Reddy's mid-term review of the Credit Policy, has not tinkered with the bank rate or the cash reserve ratio. He has let things be insofar as both the interest rate structure and the liquidity controls are concerned. This is a recognition of the fact that growth impulses in the economy are still too tentative and should not be restricted by central bank action.

While there was some expectation that inflationary conditions would lead to the RBI's increasing the interest rate, Dr Reddy has restricted himself to raising the reverse repo rate. This will have implications on some short-term lending rates, but it will vary from bank to bank.

By and large, one must be thankful that, on overall considerations and taking into account the fact that inflation is still around 4.6 per cent (as on October 8), he has not tinkered with the interest rate structure.

So far as the external environment is concerned, the Governor has reflected on the fact that the current account situation has turned adverse. But this is primarily because of imports in the capital goods sector. There is no indication of any action to re-set the present trends in imports or exports.

S. Venkitaramanan

The stance on foreign exchange policy seems the same as before. The fact is that there has been a sizeable increase in the trade deficit — nearly 71 per cent — compared to the corresponding period last year.

This primarily reflects the increase in both oil and non-oil imports, although offset by export growth of nearly 20.5 per cent, which is higher than the target of 16 per cent set for the fiscal.

The Governor's statement includes some thoughts on the need for energy conservation and reduction of the oil import bill. But these are essentially actions for the Government to consider. The critical point made by the Governor is that oil price rises have not been fully passed on to the consumer. He states that the advisability of treating the oil price increase as a shock rather than a permanent shift in relative prices may need to be questioned.

The inevitability of the second-order effect in inflation needs to be taken on board. Translated into ordinary language, this means that the Government is concerned about the fiscal insulation of oil price increases from the consumer. There are both fiscal costs and long-term effects on petroleum products consumption.

The Governor has also devoted some part of his statement to changes in banks' provisioning requirements. He has decided that the general provisioning requirements for standard advances is to be increased from the present level of 0.25 per cent to 0.4 per cent. But banks directing advances to agricultural and SME (small and medium enterprises) sectors would be exempt from the additional provisioning requirements.

While this is, no doubt, dictated by policy considerations to encourage agricultural and SME credits, it does not fully account for the risks in these two sectors. A selective exemption from additional requirement for agricultural and SME loans is not fully justified.

So far as the corporate debt restructuring mechanism is concerned, the statement only recounts the fact that changes have been finalised taking into account the feedback received.

One expects operational guidelines soon. Hopefully, the CDR mechanism will be made more responsive to the ground realities.

The same is the situation regarding financing of NBFCs (non-banking financial companies). While the Governor's statement makes a reference to the Working Group under the Chairmanship of Ms Usha Thorat, a decision on the recommendations does not seem to have been taken yet.

The recommendations include extending bank finance to NBFCs for permissible activities, using NBFCs as business correspondents, permitting the banks to rediscount the bills discounted by NBFCs and, last, using NBFCs as conduits for providing long-term funds to the SME sector.

It is to be hoped that the RBI will treat the NBFCs as an ally rather than as a constraint in extension of credit.

An NBFC-friendly approach would lead to the evolution of a healthy credit culture amongst small industrialists and agriculturists. This requires a mindset change by the RBI and the Government.

The policy also includes a statement by the Governor that the exposure limit of banks to equity investments has been increased from current levels. To what extent this will have an impact on the equity market remains to be seen.

This depends essentially on the appetite of the individual bank managers to take risks and their immunity from further proceedings in case their decisions are proved wrong.

The increase in limit seems more a demonstrative gesture in the pursuit of a liberal capital market environment and, unless the managerial culture becomes free from vigilance and invasive supervision, the relaxation of limits is only academic.

Overall, the Credit Policy has been a sensible one, not rocking the boat and essentially meeting the twin requirements of inflation management and growth impulses. A creditable job!

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page

Stories in this Section
RBI's price concerns

Throw them out!

Mid-Year Review of the Annual Credit Policy — Managing inflation, encouraging growth

Rupee confusion mars wise moves

Inflation vaccine from Reddy's lab

Damage control

Show them out

An environment hazard