Governor Das announced a raft of measures today in light of the new and vicious wave of the pandemic that is now visibly beginning to weigh on concurrent economic activity. The general review of the economic situation conveyed both an underlying sense of resilience as well as established to some extent the room that the RBI may still have to respond to evolving concerns. Thus while the global economy is coming back supported by monetary and fiscal stimulus, activity is still uneven across sectors and countries and the outlook is highly uncertain and clouded with downside risks. CPI is benign in major advanced economies but persists above target for some emerging markets. In the assessment for India, the governor noted that aggregate supply conditions are underpinned by the resilient agriculture sector which will provide key support to other sectors of the economy as well. Aggregate demand conditions, on the other hand, may see a temporary dip depending upon how the virus situation unfolds. However, the dent is expected to be moderate in comparison to a year ago. With respect to inflation, while part of the food basket (cereals and key vegetables) is witnessing some softening other aspects remain firm, particularly core inflation. The build up in input prices on the back of higher global commodity prices is a concern but somewhat mitigated by the prospects of a normal monsoon and its expected benign effects on food prices.
The governor noted the easy domestic financial conditions including the enthusiastic response to the first bond purchase of INR 25,000 crores under GSAP. The second such program has now been scheduled for 20th May for an even higher aggregate amount of INR 35,000 crores.
Key Measures Announced
Various further measures were announced aimed at incentivizing credit flow to high priority areas currently as well as to smaller and more susceptible balance sheets. Measures also included extensions of previous dispensations as well as additional fiscal flexibility to states. These are summarized below:
1) Term liquidity facility of Rs. 50,000cr to ease access to emergency health services, to boost provision of liquidity to ramp up Covid-related infrastructure and services; tenor of up to 3y at repo rate till 31 Mar 22; banks can provide fresh lending support to vaccine manufacturers, importers/suppliers of vaccines and medical devices, hospitals & dispensaries, pathology labs, manufacturers and suppliers of oxygen and ventilators, importers and suppliers of Covid related drugs, logistics firms and patients for treatment; banks are incentivised for quick credit delivery through extension of priority sector lending, which will be classified so till repayment or maturity whichever is earlier; banks can lend directly or through other intermediary FIs; banks must create Covid loan book; such banks eligible to park surplus liquidity up to the size of their Covid book at 40bps above reverse repo rate.
2) SLTRO (Special Long-Term Repo Operations) for Small Finance Banks – to provide further support to small business units, RBI to conduct special 3y long-term repo operations of Rs. 10,000cr at repo rate for small finance banks, to be deployed for fresh lending up to Rs. 10 lakhs per borrower; facility available till 31 Oct 21
3) Lending by Small Finance Banks to smaller MFIs (with asset size up to Rs. 500cr) for on-lending to individual borrowers to be considered as priority sector lending; facility available till 31 Mar 22
4) Currently available exemption for SCBs to deduct credit disbursed to new MSME borrowers from their NDTL for calculation of CRR (for exposures up to Rs. 25 lakh and for credit disbursed up to the fortnight ending 01 Oct 21) is being extended till 31 Dec 21; to further incentivise inclusion of unbanked MSMEs into the banking system
5) Resolution Framework 2.0 for individual, small businesses, MSMEs – 1) All three borrower categories having aggregate exposure of up to Rs. 25cr and who have not availed restructuring under any of the previous frameworks and who were classified as ‘standard’ as on 31 Mar 21 shall be eligible to be considered here. Restructuring may be invoked up to 30 Sep 21 and have to be implemented within 90d of invocation, 2) For individual and small business who availed resolution under Restructuring Framework 1.0 where the resolution plan permitted moratorium of less than two years, lending institutions can now increase period of moratorium or residual tenure up to 2y, 3) For small businesses and MSMEs restructured earlier, lending institutions are now permitted as a one-time measure to review working capital sanctioned limits, based on a reassessment of the working capital cycle, margins, etc.
6) Rationalisation of compliance to KYC requirements
7) Utilisation of floating provisions and counter-cyclical provisioning buffer – banks are allowed 100% utilisation of these buffers held by them as on 31 Dec 20 for making specific provisions for NPAs with prior approval of their Boards; permitted with immediate effect up to 31 Mar 2022
8) Relaxation in over draft facility for state governments – maximum number of days of OD in a quarter increased from 36d to 50d; number of consecutive days of OD increased from 14d to 21d; facility available up to 30 Sep 21; WMA limits of states already enhanced on 23 Apr 21
Assessment and Takeaways
Alongside the specific measures announced, what is also very relevant is the tone of the Governor’s speech and the ‘whatever it takes’ attitude embedded there. This is reminiscent of the earlier urgency expressed around the first wave, and constitutes a departure from the more recent ‘steady as she goes’ supportive approach, in our view. The change should be logical since for the past few months the job was to support a recovery that was already getting well entrenched as the system was looking forward to progressively opening more and more. Whereas, the new wave has now put brakes to some of this even as the economic impact is nowhere as close to what occurred in the first quarter of last financial year.
However, global realities are somewhat different now. As opposed to last year when everyone was more or less in the same boat, this time around growth recoveries are at multi-speeds around the world reflecting largely different intensities in the fiscal plus vaccine responses. Notably, the US has delivered a staggeringly large fiscal response and lately seems to be vaccinating rapidly as well. These combined will lead to much-above potential growth this year as well as maybe next in that country. This is leading to substantial worries about at least temporary spurts in inflation even as the Fed is taking a very patient stance and has a somewhat different assessment of the situation. Thus it has so far expressed a view that the price rise will be temporary and that it will likely look through it. Nevertheless, there are distinct worries about imported tightening for emerging markets in an environment like this. Indeed, we had spent considerable time analyzing this in our post policy note in April (https://idfcmf.com/article/4383) given that we see this as the only meaningful risk to our bond view as of now.
The RBI’s battle-readiness has to be thus looked at in the above context: specifically that despite these potential global risks it still sees itself has having the room to make this commitment. The governor notes in his closing remarks that the RBI stands “in battle readiness to ensure that financial conditions remain congenial and markets continue to work efficiently” and that it is “committed to go unconventional and devise new responses as and when the situation demands”. To some extent, this extends a shift in policy that we have noted since last year: the importance of creating foreign exchange buffers seems to have gone up noticeably in addressing macro-stability concerns. Indeed the governor alluded to this today when he noted: “Foreign exchange reserves were at US$ 588 billion on April 30, 2021. This gives us the confidence to deal with global spillovers”. Ceteris paribus, this may allow the RBI some additional room for pursuing looser financial conditions for longer domestically.
From a bond market standpoint, even as there are no new measures of interest, today’s statement should mark an acceleration of commitment. This has been somewhat in evidence in the past few weeks when RBI is speculated to have bought part of a regular Friday bond auction even as yields at the time weren’t substantially divergent from 6%. It has also announced a separate twist operation and indeed has apparently been shoring up its treasury bill holdings to facilitate future such programs. It is to be noted that these have been over and above the official GSAP commitments. Thus more than the officially announced GSAP numbers, market participants may derive comfort from the somewhat open ended commitment that the RBI seems to have towards an orderly evolution of the yield curve. We will note again here that this doesn’t mean that it is trying to target yields at a certain number or even that it doesn’t want yields to go up. But as discussed before here, so long as yields rise in a gradual and orderly fashion there is enough carry-adjusted-duration cushion available at intermediate duration points of the yield curve (upto 5 – 6 years).
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