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Eighteenth EGROW Shadow Monetary Policy Committee Meet held on October 5, 2021


Recording of the event

Key Takeaways

  1. The GDP growth rate for the FY22 is on track and estimated to be 10 % +/-1%
  2. The issue of logistics and supply chain disruptions are affecting growth
  3. The favourable base effects and muted food prices are expected to keep the headline inflation trajectory 50-70bps lower than RBI’s projections until December 2021.
  4. RBI should consider Exit Policy. As the US taper gets under way, there could be an outflow of capital affecting domestic liquidity.
  5. Inflation expectation is lower this time than few months back.
  6. Global uncertainty continues, including the trade war between China/US, energy crisis and China’s Evergrande.
  7. The corporates are recovering, production of 8 core industries is healthy and economy is limping fast to normalization.
  8. Fiscal policy has a bigger role ahead in post-Covid recovery phase
  9. RBI could focus on sectors to alleviate pain during post-covid recovery

Recommendation of EGROW Shadow MPC

Members of EGROW SMPC - 4
Repo Rate - Retain at 4 percent - 4 members
Stance: Accommodative should continue

Non Members – 4
Repo Rate- Retain at 4 percent – 4
Stance: Accommodative

Detailed Views by Members of the EGROW Shadow MPC

1. Dr. Arvind Virmani, Chairman, EGROW Foundation

The GDP growth rate for the FY22 is on track and estimated to be 10 % +/-1 percent which was predicted by us 9-12 months ago.

The issue of logistics and supply chain disruptions was still seen but the issue was limited and easily overcome. The post second wave domestic disruptions were even smaller and well dealt with. The Global supply chain and logistics disruption were much larger and more long lasting than we anticipated due to COVID related delays at ports as well as geo-political factors like US export, China import bans. The phenomenon of supply chain disruption was given boost by logistic impact.

In the FY23, GDP growth will accelerate to 7 to 8 percent due to Indian reforms since September 2020 which have been welcomed domestically and abroad, Boom in digitization and digitally provided services, Health, Education, Fin Tech, Startups Unicorns, etc. are autonomous drivers of demand.

Monetary policy should maintain the current stance but at the same time watch out the Asset prices. Focus of the government must change from monetary to fiscal. The shortage of coal and electricity pricing needs to be watched and necessary actions should be taken. The pre-budget discussions are scheduled to start from October, where these issues will be discussed.

The macro level aspects should be seen in threefold- informal jobs have been affected with urban informal sector jobs experiencing a decline; ratio of agriculture to non-agriculture rural wages have been declining over the years and the pandemic has accelerated the process (1/2 of informal, non-agro, jobs are rural); Private consumption demand recovery is slow and consumer confidence is quite low; Corporate segment is developing well as compared to MSMEs.

The negative impact of the GST and direct tax code is been seen. The current average rate should be brought down. The MSMEs can be provided with level incentives post-corporate income tax reform. Tax rate of 15 percent for 3/4th of Goods & Services; exemption for 1/8th and average rate of 30 percent (including cess) for automobile sector and cigarettes & tobacco which will result in cost & time savings for MSMEs, increase in sales & income. Reducing dispersion of tariffs, reducing average tariffs to 2018 level which were the lowest will stimulate labor intensive exports, like textiles MNC supply chains in engineering, electronics, machinery will strengthen. Boosting export growth will help India join the Global Supply Chain. Energy pricing will see a stagflation.

The digital divide needs to be overcome by accelerating Broadband connectivity of villages & ensure 24x7 connectivity (including electricity), empowering private provision of e-commerce and e-services down to village level, providing internet linked computers in every govt primary school, primary health centre and govt office at panchayat or lower level, with priority use by poor, facilitating private provision of e-health, e-medicine, e-education, e-skilling in every language and every geography.

2. Ms. Upasna Bhardwaj, Senior Vice President, Kotak Mahindra Bank

Ahead of policy, the RBI is faced with an uncertain global backdrop as Fed gears up for tapering its asset purchases and as the supply-demand mismatch weighs across crude oil and coal prices. On the domestic front, the MPC members will be meeting with expectations of far more benign near term inflation trajectory compared to their August projections. The favourable base effects and muted food prices are expected to keep the headline inflation trajectory 50-70bps lower than RBI’s projections until December 2021. While the near term risks are skewed on the downside, the lagged impact of pass through of global commodity prices and persistence of supply constraints poses upside risks to inflationary expectations becoming highly entrenched. Meanwhile, the high frequency data across the board have been pointing towards a sharp revival in economic activity as the economy opens up tracking the sharp vaccination drive. Ahead of the festival season inventory buildup has started to gear up activity. However, supply constraints and escalating input prices poses risks to the momentum. We expect FY2022 GDP at 9% compared to RBI’s estimate of 9.5%

While we do not expect any change to the policy rates or stance, the MPC should provide some cues on the likely exit policy going ahead. Although as a lead signal, RBI has already started to reveal its discomfort with the increasing liquidity surplus and the record low money market rates. The RBI has switched the GSAP (outright OMO purchase program) with an operation twist since September. We expect this to be the new norm. Further, we see the quantum and tenure of VRRRs to continue to be tweaked to manage the surplus liquidity in the upcoming policy. However, the impact on weighted average VRRR rates may not be significantly higher given our expectations of further improvement in liquidity surplus in the coming months. The reverse repo hike will likely come in the December policy.

Expectation and recommendation: Unchanged repo and reverse repo rate.

Communication could be improved for future guidance especially on the liquidity stance.

3. Mr. Abheek Barua, Chief Economist and Executive Vice President, HDFC

We recommend retaining an accommodative stance without any increase in the reverse repo rate, currently the effective policy rate. The amount of the GSAP could be reduced with the proviso that it could be revised up when required.

Our rationale:

  • Global risk particularly from the China “shock”, the US Fed taper and apprehensions about the US debt ceiling not getting raised have escalated.
  • These would have supply side effects for industrial intermediates and fuel as well as demand side manifestations as global growth is likely to slow down
  • US yields have risen sharply with a knock-on effect on domestic yields.
  • As the US taper gets under way, there could be an outflow of capital affecting domestic liquidity.
  • Domestic inflation could moderate to the 4.2-4.6 per cent in the Sept-Dec 2021 periodrange on lower food prices.
  • Domestic output gap still remains high and capacity utilization in the majority of industries is below 75 per cent.
  • Household and SME balance sheets are impaired and are best repaired under low interest/high liquidity conditions

Thus, the balance of risks calls for holding action and continuation of the accommodative stance

4. Dr. Charan Singh, CEO and Director, EGROW Foundation

The Indian Economy is doing well. The recovery is quick and robust. The projected growth rate of 9-10% is appropriate and India should be able to achieve it. The sentiments are very high and the festivals season is starting and industry is very positive. Markets are up, illustratively car prices are also rising, discounts on cars have been discontinued, and two-wheelers and tractor sales are brisk. Vaccination has been completed to a very large extent in different cities and labour is returning.

The potential problem is that global supply chain is becoming difficult. Inflation scenario could be a cause of concern but, Inflation Expectation Survey carried out at IIM Ahmadabad shows that the Year Ahead Inflation expectation is lower this time than few months back. Internationally, other countries have treated rising inflation as transitory and not initiated any action. Federal Reserves, Bank of England, Euro Zone and Australia continue with the low interest rate regime that they were pursuing earlier. In Russia, there has been an increase by 25 basis points. In Brazil, the interest rate has been increased 5 times within a year as inflation is touching double digit.

There is uncertainty in the global market. China’s position is getting grim, energy crisis is emerging in a big way, coast of coal could get escalate there, and Evergrande is already posing a problem. What will Evergrande and the energy crisis do to the Chinese economy? What will happen to Australian coal?

The corporates are recovering, production of 8 core industries is healthy but economy is limping fast to normalization. However, there are sectors which are under strain and that will certainly reflect on banking sector, though infrastructural mechanism of asset resolution has been strengthened in recent times. The banks have built buffers but the end-of-the-year balance sheet could reflect the overall stress of the economy, as indicated by the RBI in their semin-annual report on financial sector. Thus, the amount of non-performing assets (NPAs) is expected to increase. The non-Banking Finance Companies will also be under stress as also the micro-finance sector.

MSMEs are also a cause of concern. The cost of raw materials which increased during covid is expected to further increase, not come down, in the case of MSMEs, further squeezing the profit margins. The retail market is tight, customers do not have sufficient purchasing power and flexibility of raising prices of final goods is limited for the MSMEs. The distribution channels have been disrupted and marketing has become difficult for MSMEs. In addition, if export markets open up, pressure on prices of inputs will rise again. MSMEs feel that the interest rates that they are paying are very high in the range of 12 percent. The government did consider some concessions for MSMEs during COVID, which helped them, survive, but most of the liberalized support was collateralized lending for most MSMEs. The government can help MSMEs in a big way in stabilizing prices especially of inputs. Illustratively, in the last 4 days, yarn prices have shot up by 20 per cent. Viscose and polyester prices also need to be controlled as they are produced with control of prices by monopolists.

In face of the global situation, the role of monetary policy may be limited and that if fiscal policy may assume additional responsibility. The fiscal situation is expected to improve with green shoots emerging across the economy. Illustratively, the GST collections in August were high and in September, they were still higher. If this trend continues, then the market borrowing program of the government can relax as already, against the stipulated amount, market borrowings in the first 6 months have been slightly lower than anticipated.

In view of the uncertainty prevailing, and the geopolitical situation brewing in the region, as well as following the practice in advanced countries, it is recommended that the monetary policy stance should continue to be accommodative. The repo rate should be retained at the current level. The monetary policy, in general, has played its role successfully and now can focus on sectoral support, for example, to non-pharma MSMEs. The stability in the interest rates will help the fiscal authority to play a larger role in the post COVID recovery phase.

Guest Panellists – Specialists from Market

1. Shri Siddhartha Sanyal, Chief Economist & Head- Research, Bandhan Bank

Fear of the third wave has subsided very gradually which was not being expected 3-4 months back. There is a piece of disinflation in overall inflation pressure; RBI will maintain their inflation rate expectations but relief on COVID situation can help us to achieve the target. There is no headline rate change, Reverse repo rate can get hike sooner or later. MPC can take the role of not causing any disruption since the supply chain is yet to be restored completely.

2. Shri Arjun G Nagarajan, Chief Economist, Sundaram Mutual

There is always a difference RBI should do and RBI must do, but recently over time it has been working perfectly and credit growth of corporate has been very high, we expect Hon’ble Governor to get the extension. We are currently at an inflation rate of 5 percent +. We are not expecting a third wave since 75 percent of a single dose of vaccination has been done. Reverse Repo Rate can be seen somewhere around mid- 2022.

Guests from ASSOCHAM

1. Shri S. C. Aggarwal, Senior Member, ASSOCHAM & CMD, SMC Group

The Monetary Policy manages money supply and maintains long term interest rate. Repo rate remained unchanged last time at 4 per cent. The Reverse Repo Rate also remained unchanged the last time as well. Till October, the GST collection gained pace and current account is in surplus. The Monetary Policy stance should continue to be accommodative in October as well and Repo rate should not change.

2. CMA Rohit J Vora, Rohit and Associates, Cost Accountants

We have information related to COIVD and its impact on the economy on consolidated basis presently. In the COVID scenario, we should have data on the impact of COVID on sector wise basis. The amount of variation due to COIVD should also be taken care of when the data is being accessed or used. The MSMEs have been far deeply affected compared to the corporate sector.