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RBI takes a balanced view

A. SESHAN
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By leaving rates unchanged in its first quarter policy review, the RBI has done well to remain focused on inflation. The reduction in SLR seems to be in anticipation of enhanced government borrowings on account of monsoon failure.

The Reserve Bank of India (RBI) has preferred not to surprise the market in its latest Quarterly Review of the Monetary Policy, instead going along the lines expected by observers. It has done well by ringing the warning bell on the risks facing the economy, both on the domestic and external fronts. It has reduced the estimate of growth to 6.5 per cent from 7.3 per cent.

Despite the fact that half of the monsoon period has already passed and July — when around 50 per cent of the precipitation has been received — has been dry for most of the time, there seems to be still hope that the remaining weeks may make up for the near-about one-fourth deficit in rainfall.

Even if the lakes fill up to satisfaction, it may only alleviate the shortage of drinking water and help in rabi cultivation.

This may not be of much help in the current agricultural season as it would be too late for re-sowing operations in the affected areas. Of course, given the shortage of storage space for foodgrain stocks, the authorities may consider the situation as a mixed blessing!

Late rain may also help in keeping the soil moisture in a favourable condition for rabi cultivation in non-irrigated areas, such as West Dinajpur in West Bengal. But the impact on total growth due to the dismal performance of agriculture will be more than what is indicated by its small share of around 20 per cent in GDP.

Agriculture provides the raw materials for industry and supports the service sector. Oilseeds and cotton output is expected to be disappointing, necessitating imports. Further, the decline in the incomes of the rural sector will have its repercussion on demand for industrial goods. Exports of the agriculture sector have been a source of strength to the balance of payments. They reached a new high in the recent period.

Optimistic outlook

It may not be so in the current year, with a demand being made for curbs on exports of commodities in short supply. Taking a total view, if the country achieves a growth rate of 6.5 per cent, it will be nothing short of a miracle.

The inflation forecast of 7 per cent at the end of the year seems to be somewhat optimistic. Considering that the economy is being buffeted on both domestic and external fronts, much will depend on the government taking urgent steps to augment food supplies.

One cannot understand the incongruity of mounting stocks of rice and wheat in government godowns and their prices rising over the year.

Several factors play an important role in consumer choice. The general perception that farmers sell poor-quality grains to the Food Corporation of India and the rest to traders inhibits many consumers from accessing the fair price shops. The last one month has seen large price rises in the case of essential commodities. There would be no respite till the kharif crops arrive in October-November. The increase in input costs will continue to aggravate non-food manufacturing inflation.

Government borrowings

The central bank has taken a balanced view of the existing situation and refrained from making changes in the policy rates and the Cash Reserve Ratio. It has correctly articulated its stance by saying that the management of inflation is its primary focus in the formulation of monetary policy.

But its reduction of the Statutory Liquidity Ratio (SLR) cannot be readily understood.

The policy statement explains how liquidity conditions have eased considerably since the April policy.

Where, then, is the need to reduce SLR from 24 per cent to 23 per cent? The bank could have waited and watched trends in the coming days.

My hunch is that the move is in anticipation of massive government borrowings during the rest of the year.

The borrowing requirement is likely to be raised due to the dismal performance of monsoon and the consequent additional expenditure devolving on government.

Whether the SLR reduction will result in any systemic impact on the flow of funds is a moot point since, as on July 13, 2012, the system’s SLR investments amounted to 30.52 per cent against the statutory minimum of 24.0 per cent.

Farm credit

The agricultural credit situation is none too satisfactory. There are reported to be 5 million debtors who have defaulted in repaying more than Rs 1 lakh crore. This is money that should have returned to the banking system.

There is already a talk about the restructuring of short-term crop loans into medium-term ones due to the failure of monsoon. So additional credit will have to be pumped into the system, instead of the repayment of old loans being recycled.

The big industrial houses sector may not suffer from any shortage of credit as they can approach the market directly in an act of disintermediation.

While the money supply (M3) growth at 14.3 per cent in mid-July was marginally lower than the indicative trajectory of 15 per cent, non-food credit growth at 17.4 per cent was slightly above the indicative projection of 17 per cent.

If we include banks’ investment in commercial paper and other instruments, non-food credit growth was even higher at 17.7 per cent.

The poor farmer has only the moneylender to turn to if he has no institutional support.

The challenge facing the banking system is in meeting the needs of the agricultural sector in a timely fashion, especially in the case of the small and marginal farmer.

(The author is an economic consultant.)

(This article was published on July 31, 2012)
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