{"id":3180,"date":"2022-02-08T11:50:17","date_gmt":"2022-02-08T06:20:17","guid":{"rendered":"https:\/\/bankerstrust.in\/column\/?p=3180"},"modified":"2022-02-09T09:52:58","modified_gmt":"2022-02-09T04:22:58","slug":"for-rbi-is-it-time-to-formalise-the-normalisation-process-part-ii","status":"publish","type":"post","link":"https:\/\/bankerstrust.in\/column\/for-rbi-is-it-time-to-formalise-the-normalisation-process-part-ii\/","title":{"rendered":"For RBI, Is It Time To Formalise The Normalisation Process: Part II"},"content":{"rendered":"

The gross borrowing in FY23 is estimated at R14.95 trillion (after the so-called switch of certain papers, it\u2019s Rs14.31 trillion) — a historic high. The current year\u2019s gross borrowing has been Rs11.65 trillion. So far, Rs10.7 trillion has been raised.\u00a0Net borrowing\u00a0after\u00a0redemptions\u00a0next year will be Rs11.186 trillion versus the current year\u2019s\u00a0<\/strong>Revised Budget Estimate\u00a0<\/strong>of Rs9.348 trillion — again, a historic high. Then, there will be borrowing by the state governments. The state fiscal deficit will rise from 3.5 per cent to 4 per cent next year.<\/p>\n

Going by the norms, the banks need to invest just 18 per cent of their net demand and time liabilities, a loose proxy for deposits, in government bonds. The RBI data say the commercial banks\u2019 share in the stock of government bonds was 37.82 per cent in September 2021; the next big bond buyers were the insurance companies (24.18 per cent share). The foreign portfolio investors\u2019 holding was just 1.81 per cent.<\/p>\n

The Budget is silent on getting\u00a0India into the global bond indices, which would have encouraged foreign investors to buy Indian papers.<\/p>\n

How have the interest rates moved across maturities during the current fiscal year?\u00a0<\/strong>The 91-day treasury bill yield, which was 3.35 per cent in April 2021, rose to 3.49 per cent in December during the last policy; post Budget, it is 3.88 per cent. The comparable move for the 182-day treasury bills is 3.59 per cent, 3.82 per cent and 4.4 per cent; and that of 364-day treasury bills, 3.74 per cent, 4.15 per cent and 4.66 per cent.<\/p>\n

At the longer end, the 10-year yield was 6.17 per cent in April 2021; it rose to 6.35 per cent during the December policy; and just ahead of the Budget, it was 6.68 per cent. Last Friday, it came within kissing distance of 7 per cent \u2013 6.97 per cent. After the Reserve Bank of India (RBI) cancelled auctions of two bonds \u2013 the last before the Monetary Policy Committee (MPC) meeting from February 8 to 10 \u2013 it dropped to 6.88 per cent.<\/p>\n

Meanwhile, the overnight call money rate surged to 4.5 per cent in the recent past. And,\u00a0<\/strong>the one-year overnight index swap, an indicator of\u00a0the trajectory of overnight money\u00a0over the next one year, rose from 3.77 per cent in April 2021 to 4.51 per cent now.<\/p>\n

Will the RBI spend its time and energy through FY23 to \u201cmanage\u201d the yield by cancelling auctions and\u00a0through other ammunition in its arsenal such as bond purchase under the open market operations (OMOs) and operation twists or will it allow the market to find its own level? Simultaneous purchase and sale of government securities under OMOs\u00a0is known as operation twist. It involves buying long-term papers, while selling short-tenure bonds to keep the borrowing costs down.<\/p>\n

In its December policy, the RBI\u00a0expressed concern over the persistence of high core inflation (inflation excluding food and fuel) but kept its retail inflation projection unchanged at 5.3 per cent for 2021-22 — 5.1 per cent in the third quarter and 5.7 per cent in the fourth, with risks broadly balanced.\u00a0In December, the headline retail inflation rose to its six-month high of 5.6 per cent from 4.9 per cent in November.\u00a0Most analysts see higher retail inflation in the fourth quarter. Thereafter, it would depend on the crude price.<\/p>\n

Achilles\u2019 heel<\/strong><\/p>\n

India’s Achilles\u2019 heel is its already weak fiscal position. It entered the pandemic with successive weak growth years, leading to a weakening of fiscal position — the ever-widening successive revenue and primary deficits. Following a shoddy\u00a0GST\u00a0<\/strong>implementation and demonetisation, we have seen continuous misses of revenue targets, a yawning gap between the Budget projections and achievements, and an anemic credit growth.<\/p>\n

The expenditure continued to rise for pump-priming the economy, while artificially suppressing the true fiscal deficit even as revenues sagged, killing the fiscal space. The pandemic was the perfect storm which plunged revenues and further widened the fiscal deficit.<\/p>\n

The borrow-and-spend Budget, without paying attention to the available domestic savings pool, will push up bond yields and crowd out private investments. The savings-borrowing gap is so wide now that the impact on domestic bond yields could be dramatic, which could hit the entire premise that borrowing can support spending \u2013 the fulcrum of the Budget. The problem is more with the supply side than demand for bonds.<\/p>\n

Main hoon na<\/em><\/strong><\/p>\n

At a closed-door discussion ahead of the Budget, a market expert nonchalantly said: All the governor would need to say is \u201cMain Hoon Na<\/em>\u201d<\/em><\/strong>\u00a0(I am there),\u00a0<a la><\/em>\u00a0Shah Rukh Khan in a 2004 Hindi film, Farah Khan\u2019s\u00a0directorial debut.<\/p>\n

Will this policy be that easy? This is probably the most challenging policy for RBI Governor Shaktikanta Das and he needs to do more.\u00a0Can Das just reiterate that the RBI has already started the normalisation process (by replacing reverse repo with\u00a0variable rate reverse repo, or\u00a0VRRR, leading to the rise in short-term rates) and continue with that?<\/p>\n

It\u2019s time to change the narrative and formalise the normalisation process. Indeed, VRRR has raised the rates but it creates uncertainty because the size and tenure of such auctions are not uniform. The stance should remain accommodative till the growth is secured and future actions should be data driven but, for now, reverse repo\u00a0rate\u00a0should be hiked by at least 20 bps. Another hike of an equal quantum will take it to 3.75 per cent probably in the first policy of FY23\u00a0to narrow the gap between repo and reverse repo rates. Then the repo rate hike should start. How many hikes\u00a0in FY23? That\u2019s anybody\u2019s guess now.<\/p>\n

Many are saying that tinkering with the reverse repo rate is not within the MPC remit and the RBI can do it outside the policy anytime it wants.\u00a0<\/strong>But if this is not done now, the RBI may lose its control over the narrative.\u00a0The speed of action will then have to be faster in future. With the general elections two years away, it will be difficult to counter fiscal dominance if the process does not start now. For Das,\u00a0managing the cost of government borrowing is more challenging now than managing the monetary policy, particularly when the headroom on inflation vis-a-vis its target is limited.<\/p>\n","protected":false},"excerpt":{"rendered":"

The gross borrowing in FY23 is estimated at R14.95 trillion (after the so-called switch of certain papers, it\u2019s Rs14.31 trillion) — a historic high. The…<\/p>\n","protected":false},"author":1,"featured_media":3181,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[1],"tags":[],"class_list":["post-3180","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-articles"],"acf":[],"_links":{"self":[{"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/posts\/3180","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/comments?post=3180"}],"version-history":[{"count":1,"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/posts\/3180\/revisions"}],"predecessor-version":[{"id":3182,"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/posts\/3180\/revisions\/3182"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/media\/3181"}],"wp:attachment":[{"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/media?parent=3180"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/categories?post=3180"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/bankerstrust.in\/column\/wp-json\/wp\/v2\/tags?post=3180"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}