The Hindu Business Line : A vote for growth

How the Governor's latest Monetary Policy statement will pan out depends very much on the international and domestic developments, including crude oil prices and the domestic political situation. Hopefully, the Governor's expectations of a smooth ride for India will come to pass, says S. VENKITARAMANAN.

The Credit Policy announced by the Reserve Bank of India Governor, Dr Y. V. Reddy, has proved that he is, as usual, pragmatic as he is cautious. While he has announced that there will be no change, importantly in bank rates, reverse repo and repo rates, as also the cash reserve ratio, he has devoted adequate space in his statement to the emerging risks in international environment as well as domestic scenario.

He has obviously committed himself to continuing the current stance until circumstances require him to change it. The message is that if circumstances justify, the Governor will not hesitate to increase the interest rates. There is sufficient commentary in the statement to draw that inference.

Interest rates untouched

There had been expectations that in the light of developments in various other central banks around the world markets, the Governor may also feel inclined to raise interest rates. He has resisted the temptation to do so. He has noted that inflation has been more or less contained, he , however, recognises that part of the credit for this is due to fiscal action in absorbing the impact of crude price increases and in limiting the pass through, as also to his own perceptive stroke on the last occasion raising reverse repo rates.

There is a passage in Governor's statement, which notes that the pass-through itself has been incomplete. He reflects on the necessity to implement Rangarajan Committee's recommendations in this regard, which may well involve a substantial rise in first round and second round inflation. The Governor's message, in short, is that while the times are good and the growth prospects are robust, he is keeping the powder dry for monetary actions if called for to control inflation as a result of global or domestic development.

The Governor's statement includes important projections regarding credit growth expected during the year. He is estimating the non-food credit growth to be less in the current year than the previous year, though the GDP growth is expected to be of the same order. There is an obvious disconnect when we realise that credit is the foundation of growth. The same observation applies to some of the Governor's prescriptions regarding provisioning requirements in respect of loans to capital markets, housing, real estates and so on.

While one acknowledges the need for increased prudential provisions in risky sectors, it is also necessary to point out that such increases may translate themselves into higher interest costs. For instance, the increased provision indicated in regard to real-estate can hamper further development in housing inasmuch as real-estate is the foundation on which housing development rests and funding for real-estate cannot always come from the market.

Increased capital adequacy

What is more important is that the Governor has combined these provisioning requirements with an increased capital adequacy needed for loans made for real-estate, the capital market and retail loans. This is applying the brake as well as the accelerator in these critical sectors. Increased capital adequacy also carries with it a cost and this will be a damper on bank lending for sectors, such as housing and for consumer loans, which are vital for growth. It will be difficult to see how credit growth for these critical sectors can be sustained when the Governor puts an impediment, however, convoluted on bank lending for these purposes.

On liquidity crunch

There is an attempted explanation offered in the statement on the liquidity crunch, which surfaced in the Indian financial system during the last quarter of last year. Liquidity crunches are essentially reflections of the gap between the resources that the banks have and the demand on them for credit.

While the explanations offered by the Governor include such items as redemption of IMD deposits and increase in Central Government's balances with the RBI, it passes one's understanding as to why at least some of these developments could not have been anticipated earlier.

It is unreasonable to lay a target before the banking system for larger credit growth and then not anticipate the resources required. Credit budgeting is all about balancing the resources available with those that are needed. Banks and institutions were on the one hand urged to raise their credit disbursements. On the other the liquidity was squeezed. It is hoped that such episodes will not recur in the current year, learning the lessons of the last year.

The Governor's latest Monetary Policy statement is, on the whole, a vote for growth. How it will turn out depends very much on the international and domestic developments, including crude oil prices and the domestic political situation in India. Hopefully, the Governor's expectations of a smooth ride for India will come to pass.

This depends very much on whether the Governor is playing the role of the regulator or development facilitator. On a successful combination of the two roles rests the success of the Credit Policy.

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