The Hindu Business Line : The RBI prescription for growth, stability

The broad objectives of the latest Monetary Policy are maintaining price stability and ensuring adequate credit expansion for faster growth. The Policy also is aims at strengthening the financial system, streamlining the credit-delivery mechanism and making institutional improvements. As economies across the development spectrum were devastated by a severe financial crisis in the 1990s, the issue of finance has now emerged an important concern of monetary policiesacross countries.

Despite the US Federal Reserve and many other central banks increasing their benchmark rates, the Reserve Bank of India has left all operative rates unchanged to catalyse investments in Asia's third-largest economy.

Economy and banking

GDP growth: There is widespread optimism about India's place in the global economy despite some persisting concerns. India has arrived on the global scene with a growth forecast of 7.5-8 per cent for the fourth consecutive year. But infrastructure is crucial to sustaining high real GDP growth.

Inflation: The average inflation based on wholesale price index stands at just 4.4 per cent (6.5 per cent last year). Despite some pass-through of high oil and commodity prices in the coming months, the inflation rate is expected to remain at around 5 per cent.

Exchange rate: Exchange rates are broadly expected to remain stable but may be affected by the global monetary tightening, the pass-through of oil-prices and the continued robust domestic credit growth.

Money supply: M3 (money supply) expansion is expected to be around 15 per cent in 2006-07. With a higher-than-normal overhang in 2005-06, attempt would be to keep M3 growth as low as possible in 2006-07.

Banking: The Monetary Policy stresses maintenance of appropriate liquidity to meet genuine credit requirements consistent with price and financial stability. Adjusted non-food credit is projected to increase by around 20 per cent, implying a calibrated deceleration from the present level of 30 per cent.

Incremental 60 bps rise, on top of a 15 bps increase six months ago, towards higher provisioning norms for standard advances from 0.4 per cent to 1 per cent for personal loans (Rs 95,000 crore), capital market exposure (Rs 10,000 crore), residential housing of more than Rs 20 lakh and commercial real-estate loans (which increased by over 84 per centin 2005-06 to touch Rs 11,225 crore) means a hit of Rs 800 crore for the banking sector.

AVOIDING A BUBBLE

The attempt is to avert an asset price bubble and possible quality problems with the retail portfolio because empirical cross-country evidence reveals that rapid credit growth is invariably followed up by ballooning NPAs.

The RBI's move on "stricter credit appraisals on a sectoral basis, monitor loan-to-value ratios and generally ensure the health of credit portfolios on a durable basis" would necessitate a re-pricing of loans and ensure a more broad-based sectoral deployment of credit, responsive to the emerging requirements of the productive sectors. With bank loans in India surging by 30 per cent in 2004-05 and 2005-06, the biggest increase since 1971, concerns have been expressed about the sustainability of such a rise. The Monetary Policy attempts to address such concerns as also inflation management, pace of growth and level of currency supply. An accent on more efficient management of public finances and systemic risk, etc. augurs well for `growth with equity'.

Should crude price, gradual unwinding of the US's current account imbalance, global inflation, India's current account deficit, monetary tightening across major economies change significantly, there could be swift course correction.

(The author is Chief Economist, Canara Bank, Bangalore)

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