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With headline inflation falling to 5.6 per cent and after repeated reductions in key rates since September last, the Reserve Bank seems to have lifted its finger off the monetary policy button for the moment. The repo rate continues at 5.5 per cent, the reverse repo rate at 4 per cent and the CRR at 5 per cent. But the central bank has lowered its earlier GDP forecast to 7 per cent in line with the Prime Minister’s Economic Advisory Council’s estimate announced a few days ago. On a happy note, it revised its headline inflation forecast to 3 per cent by March from its earlier one of 7 per cent. Such a dramatic fall in inflation may rule out the possibility of any further rate cuts if only to prevent deflationary trends creeping in. So, does the review spell the end of the RBI’s easy monetary policy?

The Governor’s statement does not give that impression. In fact, it suggests the distinct possibility of further rate cuts given the faulty transmission of monetary policy changes into the credit system. The rate cuts and the injections of liquidity since September last that have added Rs 3,88,045 crore to the system have had a greater impact on the money and bond markets. In the credit market, several factors have kept lending rates (and credit growth) indifferent to monetary policy. Of the several that the review lists, the “persistence of large market borrowing programmes of the government” bears out non-food credit growth data since October. The banking system’s risk aversion has also played its part in keeping lending rates high even “during a period of falling credit demand.” From the real economy’s viewpoint, the statement confesses, “lending rates will have to come down” if monetary policy has to have “demand-inducing effects.” What might queer the pitch for the success of existing monetary policy is the “inherently complex” nature of inflation today. Consumer price indices are “yet to moderate.” Within the WPI too, prices of primary food articles still range at double digit levels. So, interest rates could drop further only when consumer prices wind down.

Like the Economic Advisory Council the RBI stresses the importance of global cues for economic revival given India’s rapid globalisation. But it also realises that banks must lend more and at viable interest rates. Yet for all its exhortation, only public sector banks seem to be in truly expansionary mode; the growth in credit at foreign and private sector banks has halved, and with external borrowings having declined sharply, the flow of resources to the commercial sector is lower than it was last year. That certainly does not augur well for a quick revival.

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