Real interest rates are very high: CEA

Making a strong case for reduction of policy rates by the Reserve Bank of India, Chief Economic Advisor Arvind Subramanian has said real interest rates are very high and have made it difficult for companies to deal with the problem of high debt.

“So, is the stance of current (monetary) policy appropriate? Of course, that is difficult to say but, at the very least, there needs to be more analytical discussion. In particular, there needs to be greater recognition that these are unusual times.

“Real policy rates have diverged significantly for consumers and producers, and are unusually high for the latter. For producers, high real rates must also be seen against their balance sheet problems,” he said in an article in VOX CEPR’s Policy Portal. Reserve Bank under Governor Raghuram Rajan took into account inflation based on Consumer Price Index (CPI) and primarily focused on keeping price rise under check. The RBI, however, has reduced policy rates by a total of 75 basis points in three tranches since January. The repo rate at present is 7.25 per cent. The real interest, which is policy rate minus inflation, varies widely after taking into account price rise based on CPI and GDP deflator. “Today, real policy rates are either 2.4 per cent based on the CPI, 5.9 per cent based on the average of the CPI and WPI, or a whopping 7.5 per cent based on the GDP deflator. Which is the right measure of the monetary policy stance?” he questioned.

In normal times, it would be completely unobjectionable to focus on CPI, he said, adding these are not normal times as price indicators were pointing to dramatically different directions.

Subramanian further said that high interest rates would make the task of corporates in improving their stressed balance sheets even more difficult.

“Resolving the stressed balance sheet problem, which is currently a serious impediment to the revival of private investment, at high real interest rates becomes even more difficult,” he wrote.

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