Significant monetary measures

THE ONE PERCENTAGE point reductions in the bank rate, the credit reserve ratio (CRR) and the repo rate announced by the RBI on the first day of the new financial year were widely expected. Their true significance lies beyond what they are obviously intended to usher in - easier and cheaper credit regime. The timing of the announcement - barely three weeks before the scheduled credit policy announcement - is part of the RBI's recent on-going drive to demystify its monetary and credit policies. Interestingly, unlike last year, the RBI waited for a whole month after the Union Budget to signal an interest rate reduction. There has been an especially strident clamour for cheaper credit ever since the Government reduced at the time of the Budget the rates on the general provident funds. The implication is that the RBI will act depending upon its own reading of the economic variables and take appropriate measures as and when necessary.

Any act of the central bank will be scrutinised in at least two ways. First of course is the content, the likely consequences and so on. The second, which has become highly topical is to infer whether the particular act was done independent of the Government. The Finance Minister has promised to introduce a new bill that will protect the autonomy of the RBI. Whether the recent RBI moves are part of the larger design proposed for it can be debated but one point is very clear: the bank rate and CRR reductions are aimed at creating congenial conditions for the upcoming Rs. 1,17,000-crore public borrowing programme planned for this fiscal year. The one per cent CRR cut will release as much as Rs. 7,200 crores of bank funds. The increased liquidity will at least partially ensure that the Government does not crowd out the credit needs of the industrial sector, especially when the economy is on a growth trajectory. Additionally, the expected lower coupons on Government securities will benchmark, at a lower level, the interest rates structure.

That at least is the signal that the RBI is conveying through the bank rate cut. That classic monetary weapon which went into a state of disuse in this country was resurrected in 1998 at a time when the financial sector reform measures had freed most of the previously administered interest rates. From a level of 11 per cent in 1998 the bank rate has been brought down through successive reductions to the present level of 7 per cent. Along with it, the prime lending rates of commercial banks also came down from a high of 16.5 per cent in 1995-96 to 12 to 14 per cent in 1998-99. Banks and institutions are expected to heed the RBI's latest signal and lower their rates soon. What remains unclear is the likely extent of reduction.

Even side-stepping the issue as to whether lower interest rates are in fact the key ingredients for industrial and export growth, a few related points need to be borne in mind. Given the growing economic linkages, the RBI cannot act solely for the benefit of one sector ignoring the possible deleterious consequences on others. Inflation-fighting and the requirements of the external economy will always remain key items in the RBI agenda. Besides, the RBI has pointed out that over the years aggregate non-food credit disbursements have not moved up even though there was a secular decline in the interest rates. Also, it is well known that there are structural rigidities in the financial system, high operating costs and the need for banks to keep a high spread. The Finance Minister has rightly called for a relook at the transaction costs in the financial sector as a first step. The larger policy measure is of course to usher in the next stage of financial sector reform.

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Section  : Opinion
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