Will the rate cuts trickle down to industry?

Rahul Mazumdar | Updated on March 29, 2020 Published on March 28, 2020

RBI's massive repo rate cut is not unlike the one taken during the 2008 global financial crisis. However, this time, the uncertainty factor casts a shadow on lending behaviour

While great uncertainty remains in the current scenario, it has become clear that our economy will soon face severe disruptions. The RBI has come on the front foot and made some unprecedented announcements to ensure liquidity in the market and bring comfort to the financial system. The forbearance on multiple accounts, from extending the moratorium on payment of instalments of term loans, to a three-month deferment of interest on working capital facilities, will be cheered by both the financial institutions and industry alike.

The massive rate cut of 75 bps at one shot has been akin to the one taken during the global financial crisis. While the sentiments could be the same, the underlying current is significantly different. Back in 2008, it was a liquidity issue, with the workforce ready to put in hours. However, as we stand now with the inevitable panacea of ‘social distancing’, a large economic cost will be incurred with ramifications across industries.


There was a liquidity crunch in 2008 to which RBI responded by almost halving the repo rate in a matter of just six months to 4.75 per cent (Chart 1). India, too, responded swiftly and the quarterly GDP saw an upswing after just two quarters of tepid growth (Chart 2). Fiscal measures were also taken, which allowed for traction in economic activities. This will, perhaps, be difficult to replicate now.


Lending boost

The RBI has, like in the past, used its monetary space to cut the repo rate. The cut in reverse repo is a welcome step encouraging banks to lend — the question, however, remains whether the banks will extend when the chips in the economy are already down, and more so if there will be any genuine takers.


Given the current environment, capex investments are unlikely to see any green shoots, as there are labour disruptions amidst the scare. RBI’s latest Business Expectations Index (BEI) is almost at its 12-month low and will fall further. Data since January 2019 shows that quarterly growth of new investment projects has largely defied the purpose of repo rate decline (Chart 3) in the past and have even failed to encourage non-food credit growth (Chart 4).


The lower repo rate should also lead to a decline in the MCLR, making home loans cheaper, but given the uncertainty in jobs and how the crisis will pan out, apprehensions remain.

Besides this, there has been unreliability in transmission of repo cuts by the banks to the final customers. The RBI perhaps realises this to continue, and hence has been directly intervening in the market to ensure liquidity at this juncture. Hopefully, the reduction in reverse repo rate would discourage the Banks to hold on to liquidity and be ready to lend more.

As it seems now, the coronavirus is here to stay for at least another full quarter, and its economic repercussions will be felt for at least another two quarters, pulling the economy significantly down. Hence, the risk of a public health crisis spinning into a financial crisis would remain very high, and this at a time when the Indian economy is already suffering a downturn. India’s growth story, which has already taken a beating in the last few quarters, will become increasingly uncertain as investors become more risk-averse due to the pandemic.

Rate cuts would be inevitable in the months to come, amidst the anaemic growth prospects in India and globally. However, the MPC may also ascertain the absorption capacity of the industry to meaningfully benefit from all the good it is doing. Unfortunately, the bottomline will only be realised after the virus is contained.

Though not in the present context, a negative implication of the reduced rates will be on the banks’ fixed deposit earnings which will get further squeezed and may concern the senior citizens who largely depend upon it. It may close in with the inflation figures.

Global measures

Going forward, the RBI may look at some of the other extra ordinary measures being taken in other parts of the globe. Austria has announced the issuance of Covid-19, bonds which will be used primarily to finance the €4-billion Covid-19 emergency aid fund. On the other hand, the US Federal Reserve will finance a SPV to lend to companies, so that they are better able to maintain business operations and capacity whilst providing a bridge financing of four years. Borrowers may choose to defer interest and principal payments during the first six months of the loan, in order to have additional cash in hand to pay employees and suppliers.

The RBI may also like to make room in some of its prudential norms in an unusual financial year which is yet to begin.

This unfolding of a health crisis that will lead to an economic one could perhaps be the RBI’s black swan moment to overcome.

The author is an Economist with Exim Bank. Views are personal

Published on March 28, 2020

A letter from the Editor

Dear Readers,

The coronavirus crisis has changed the world completely in the last few months. All of us have been locked into our homes, economic activity has come to a near standstill. Everyone has been impacted.

Including your favourite business and financial newspaper. Our printing and distribution chains have been severely disrupted across the country, leaving readers without access to newspapers. Newspaper delivery agents have also been unable to service their customers because of multiple restrictions.

In these difficult times, we, at BusinessLine have been working continuously every day so that you are informed about all the developments – whether on the pandemic, on policy responses, or the impact on the world of business and finance. Our team has been working round the clock to keep track of developments so that you – the reader – gets accurate information and actionable insights so that you can protect your jobs, businesses, finances and investments.

We are trying our best to ensure the newspaper reaches your hands every day. We have also ensured that even if your paper is not delivered, you can access BusinessLine in the e-paper format – just as it appears in print. Our website and apps too, are updated every minute, so that you can access the information you want anywhere, anytime.

But all this comes at a heavy cost. As you are aware, the lockdowns have wiped out almost all our entire revenue stream. Sustaining our quality journalism has become extremely challenging. That we have managed so far is thanks to your support. I thank all our subscribers – print and digital – for your support.

I appeal to all or readers to help us navigate these challenging times and help sustain one of the truly independent and credible voices in the world of Indian journalism. Doing so is easy. You can help us enormously simply by subscribing to our digital or e-paper editions. We offer several affordable subscription plans for our website, which includes Portfolio, our investment advisory section that offers rich investment advice from our highly qualified, in-house Research Bureau, the only such team in the Indian newspaper industry.

A little help from you can make a huge difference to the cause of quality journalism!

Support Quality Journalism
This article is closed for comments.
Please Email the Editor
You have read 1 out of 3 free articles for this week. For full access, please subscribe and get unlimited access to all sections.