In not cutting repo rate, MPC has acted along expected lines

There were compelling reasons for the Monetary Policy Committee to leave the rates unchanged. Citing inflationary trends that are expected to peter out once the kharif crop comes in later this year, the MPC wants to keep an eye on retail inflation, which has crossed the upper limit of 6 per cent under the flexible inflation targeting regime adopted by the RBI. Inflation has already driven the real return on deposits into negative territory. Foreign portfolio investors have pulled out about ₹85,000 crore from debt funds since March, coinciding with the 115 basis-point cumulative reduction in repo rates since February this year. While this outflow period coincides with the Franklin Templeton debt funds fiasco, the debt markets could do with a bit of stability in a situation where safe haven assets are in generally in demand. While monetary transmission has been impressive so far, the MPC needs to give the financial system sometime to allow the frontloaded rate cuts to play themselves out.

The RBI has chosen to focus on other measures to drive credit and extend relief to productive sectors. Its one-time restructuring scheme for entities specifically hit by the pandemic and a relaxation of terms and timelines for MSME loan restructuring are steps in the right direction. These loans should be classified as standard for about a year, with higher level of provisioning than the usual 15 per cent for such loans. It could enable a revival of fund flows from large to small units. However, the RBI could have considered a relaxation in the classification of the NPA norm to beyond 90 days in such a situation, as provided under Basel III guidelines for economic emergencies. It could relax its capital adequacy buffer too in such a situation, as suggested by key authorities in the Bank of International Settlements. These steps will eventually ensure fewer referrals to the IBC with an overall emphasis on economic revival rather than asset recovery. Meanwhile, the development of a secondary market for stressed loans will also create some room for banks to focus on fresh lending. The RBI should work in tandem with the IBC, SEBI and the Finance Ministry to work out a new governance framework in this respect, anticipating the extent of distress and taking the necessary steps. Meanwhile, raising the loan-to-value ratio of gold is likely to provide needy credit. A calibration of the priority sector lending weightages to address regional inequities in distribution may also make a difference.

The challenge before the RBI is to ensure that bankers adopt transparent lending practices, while not shying away from lending altogether. Bank managers need to be encouraged to develop vertical expertise, as field-level officers did in earlier days. The RBI has opened the liquidity spigots. It’s now for the Centre to set its financial house in order in consultation with the States.

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