RBI cuts may be ineffectual

Days after finance minister Nirmala Sitharaman announced her economic reforms package, the Reserve Bank of India-led Monetary Policy Committee (MPC) held an unscheduled meeting to further reduce repo and reverse repo rates by 0.4 per cent and extend the tenure of concessions provided to borrowers, lending institutions and state governments. While the extension of loan moratorium by three months for people who availed credit through term loans and credit cards will prove quite helpful in the time of economic slowdown, the overall focus of the RBI has been on boosting credit growth to drive economic growth.

The steps to reduce repo and reverse repo rates are aimed at prodding banks and Non-Banking Finance Institutions (NBFCs) to be proactive in increasing their lending operations. In this process, however, the RBI appears to have glossed over the fact that the loans are sanctioned only if the banks are satisfied with the repayment capacity of the borrower. In the time of Covid-19 infused crisis, one wonders how could a bank be assured of a person’s loan repayment capacity and grant him a loan.

Theoretically, the reduction in repo rate would encourage the banks to borrow from RBI and lend money to retail or corporate borrowers at a higher rate to earn profits. But does this practice hold true when riskaverse banks have parked `6.1 lakh crores with RBI for earning 3.75 per cent interest a year (now 3.35 per cent) under reverse repo operations, instead of lending it to retail customers for higher interest?

As seen around the world, the monetary policy has its limit and the government will have greater responsibility to put the economy back on growth by unleashing its spending power. For that to happen, it requires an accurate diagnosis of the problem and the government’s Alice-inWonderland approach does not augur well for the economy.