The Reserve Bank of India’s decision to leave benchmark interest rates unchanged on Wednesday — and its signalling of a change in stance from “accommodative” to “neutral” — may have surprised many. But the RBI has good reasons to do so. The main consideration is the uncertain global environment on account of the Donald Trump administration’s stated policy of fiscal expansion and bias towards protectionism. That, in turn, has fueled a rising dollar and the prospect of the US Federal Reserve responding through raising its interest rates. With these uncertainties triggering capital outflows from emerging market economies — foreign portfolio investors have pulled out over $ 10 billion from Indian stock and debt markets since November — macroeconomic stability has again emerged as a key concern. The RBI’s move to not lower policy rates, thereby reinforcing its commitment to contain inflation at low single digits, should be seen along with the Narendra Modi government’s latest budget more or less staying the course on fiscal consolidation. Both convey the right signals about no compromise when it comes to macro-stability, which has been the biggest gain for the Indian economy in recent times.
For borrowers — be it corporates or those availing home loans — what matters is the actual lending rates charged by banks. These have come down by at least 75 basis points following the surge in deposits post-demonetisation. The fall in these is more than the 50 basis point reduction in the RBI’s repo or key policy lending rate in the current fiscal. If lending rates have already fallen, it makes no difference whether the RBI cuts its repo, reverse repo or marginal standing facility rates. To that extent, even a change in policy stance to “neutral” should not be a cause for concern.
The RBI cannot afford to take its eyes off inflation now, and not only due to rising global crude oil prices after the recent OPEC agreement to curb production. Closer home, we still do not know about the impact of demonetisation on agricultural production. Yes, rabi sowing has been higher, but one cannot rule out production being hit because of farmers not being able to sow, procure inputs or hire labour on time. Then, there are uncertainties over weather — be it a sudden rise in temperatures in March when the wheat crop is in the grain-filling stage or unseasonal rains/hailstorm as in 2015. A clear picture will emerge only in March-April when the crop is harvested and arrives in the mandis. Given these imponderables — and lending rates easing in any case — the current monetary policy stance is sensible while not harming growth. It is well known that a private investment recovery hinges on factors where the government, not RBI, has a greater role.