RBI Policy and Reasons for Rate Cut Dilemma- Explained in Laymen Language


The Reserve Bank of India (RBI) has chosen to keep the policy rate unchanged at 6.75%, as widely expected.  The Macro-economic policy statement of RBI has put the ball in the government’s court about how it will deal with the growth. Now it is the government which has to decide through the upcoming budget.

It must be understood that RBI through its money policy can only increase or decrease the money supply in the market by changing the interest rates or through qualitative measures. Blaming RBI for not reducing interest rates will not help the economy to grow. In a layman explanation, you get a pocket money of Rs 1000 from your father but you are not getting clearance to buy anything from your mother, which may lead to a situation where funds will be lying with you and may lead to cost and time over run.

According to a report published by Hindustan Times recently, as of March 31 last year, 328 central infrastructure projects, each worth more than Rs100 crore, were running behind schedule. At fault were fund shortages, tardy environmental clearances, land acquisition glitches and other government red tape. As many as 104 of these delayed projects were in the roads and highways sector, followed by 63 in power, 43 in petroleum, 37 in coal, 35 in railways and 17 in steel. Therefore, it is very necessary to cut short all these impediments before kick-starting a growth of 7.6% according to CSO in the financial year.

For the lack of funds, the government has considered many finance models like Viability Gap Funding and Infrastructural bonds. The long term infrastructural bonds are a real boon for they provide the money, for the projects, from the market. Thus it may not have a bad impact on finances of the government as well as provide long term avenue to the retail and other investors. Recently it has been opened for FII like QFI (Qualified Foreign Investors). The long term funds like Pension fund and Insurance fund are a necessity for a swift action on such projects and thus FDI (Foreign direct Investment) must be allowed to a larger extent in these sectors.

Further, the crude oil prices are at its low and the government is taking the advantage of the same to bridge its current account deficit (CAD) which will help strengthen the finances of the economy and thus may lead to availability of more funds for expenditure which in turn may shake the clutches of slowdown from the tiger i.e. the growth potential of the economy. The sanctions on Iran have also been lifted and India, being a good partner, can gain much access to Iran’s oil potential.

There are certain other things that are also required to be taken into consideration for the overall, equitable growth of the nation. Recent changes in the exploration policy towards revenue sharing model are a welcome step. Further, there is a need to change the overall working framework of Coal India Limited which has not taken to that extent as of now.

The APMC (Agriculture Produce Marketing Committee) Act of various states debars the farmers from selling their produce directly to the market. The farmers are forced to sell their produce at various agriculture market committees at block/district level which have high middlemen interface and leads to escalation of prices of the vegetables, fruits, grains etc. In addition to that, most of the APMC do not have proper storage facility; leave alone the cold storage chain that can increase the shelf life of the produce. The central government has changed this stance and should discuss with the states about making amendments to the APMC Act. Though the farmers are allowed to resort to corporate/contract farming, there are chances that it will lead to a business model where more fertilizers for better produce and suppression of the concerns of the farmers may take place as corporate houses are big firms that have better bargaining capabilities. Changes made in APMC will reduce the primary inflation which may give better room for the RBI to decrease the interest rates.

On the external front, the Fed Reserve is going to follow the path of stepping up/stepping down of the interest rate which may lead to flying of foreign funds from the stock market. Therefore, the government must make the market investment more incentive based for retail investors. The old scheme of Rajiv Gandhi Equity Saving Scheme has a very limited scope in terms of investment avenues as it only considers close ended funds where returns are not as high as open ended mutual funds.

It can be seen that most or all of the reasons are due to inertia and lack of political consensus on the part of the government and RBI policy has nothing to do with growth as of now. The traditional role of RBI is limited to managing the money in the market and not revamping the structural flaws in the economy. The external sector may or may not improve, but the government must first set its books right. That will itself has a cascading effect to bring the country to growth trajectory.


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