Monetary policy review: the two core subjects

WORRIED LOT

RBI Governor D. Subbarao (centre) and Deputy Governors K. C. Chakrabarty (left) and Subir Gokarn arrive for a meeting to announce the half- yearly review of RBI’s monetary policy in Mumbai last week

Deregulation of savings bank interest rate is an important step

Although it was most keenly anticipated, the 25-basis point hike in the repo rate to 8.50 per cent has been less of a surprise than two other announcements. The Reserve Bank of India's statement, as part of its forward looking guidance, that “notwithstanding current levels of inflation persisting till December, the likelihood of a rate action in mid-December review is relatively low'' is the clearest indication that monetary tightening that began in February, 2010, is coming to an end. The second significant announcement is the one relating to deregulation of savings bank deposit rate. As always, inflation has been the dominant concern of policymakers. The apex bank's indication of a ‘pause' in the interest rate action has been welcomed by industry and banks. Of course, there are caveats to this long-awaited policy statement. The central bank expects the inflation rate to start declining from December “and then continue down a steady path to 7 per cent by March, 2012.” (The RBI has retained its inflation projection for March 31, 2012, at 7 per cent). It is expected to moderate further in the first half of 2012-13. The projected decline in inflation is partly attributed to the fall in commodity prices and partly due to the cumulative impact of monetary tightening. Further, moderating inflation rates will in turn impact favourably on commodity prices. These expected outcomes will give room for monetary policy to address growth concerns in the short-run. However, monetary policy's traditional trade-off between supporting growth and curtailing inflation — till now heavily tilted towards the latter — has only slightly become more evenhanded. As always, monetary policy actions will have to respond to changing macroeconomic conditions. Inflation risks continue to remain high over the medium-term. Several factors are responsible for this — structural imbalances in agriculture, infrastructure capacity bottlenecks, distorted administered prices of several key commodities and the tardy pace of fiscal consolidation. These risks can only be mitigated by concerted policy actions on several fronts. The slow progress in some of these has been causing concern. For instance, on the crucial area of fiscal consolidation, the Finance Minister has said that it may not be possible to rein in the fiscal deficit to within 4.6 per cent of the GDP as projected in the Union budget.  The RBI has categorically stated that in the absence of progress on some of these key issues over the medium-term, the monetary policy stance will have to take into account the risk of inflation surging in response to even a modest growth recovery.

Freeing SB deposit rates

Three favourable outcomes are expected from the policy action and guidance — on the basis of a credible commitment to low and stable inflation, medium-term inflation expectations will remain anchored; the emerging trajectory of inflation, which is expected to begin to decline in December, 2011, will be reinforced; and these two in turn will stimulate investment activity. Announced as part of the review covering developmental and regulatory policies, deregulation of savings bank interest rate is an important step, having deep implications for banks as well as their customers. For nearly eight years until May this year, the savings bank deposit rate remained at 3.5 per cent after which it was raised to 4 per cent. In another move that had benefited the customers, the RBI asked banks to calculate interest on the daily balances in their accounts. Until then banks were calculating interest on the minimum balance in the customer's account between the tenth and last date of the month. It is not clear whether, after deregulation, banks will continue to pay interest on the daily balances or switch to some other mode such as monthly or quarterly basis.  Deregulation of savings bank deposit rates has taken place long after all other deposit rates and most rates on advances were freed. Experience so far with deregulation has been satisfactory. It has spurred competition in the financial sector, imparted greater efficiency in resources allocation and strengthened the transmission mechanism of monetary policy. However, even with all the perceived benefits from the earlier deregulation, freeing savings bank interest rates was by no means a given. An RBI discussion paper, circulated six months ago, was tilted towards deregulation, even while listing the pros and cons of such a move.

Opposition to the move has specifically centred on the following:

Savings bank accounts are predominantly used by the not so well-off and those in rural areas. The regulator and not individual banks is better equipped to take care of these account holders. However, the argument has lost much of its weight in a scenario where the opening of the financial sector so far has passed on the benefits all round. It is not inconceivable that even the vulnerable sections will benefit from the freeing of saving bank interest rates. Innovation will get a boost as banks engage each other in a combination of price and non-price competition. Most public sector banks and even some leading private banks such as ICICI Bank and HDFC Bank have a high proportion of savings bank deposits. Over time, these banks have come to depend on these low cost deposits for bridging their asset-liability mismatches. While technology application and innovation will enable some of these banks to retain their edge, the fear is that decontrol will lead to some reckless bidding by a few banks. That would be injurious not only to them but the entire financial sector. However, it has been pointed out that term deposit interest rates have been freed for quite a while and barring isolated instances have tended to converge within a narrow range. For the common man, the savings bank account is the first and often the only point of contact with the banking system. It is about time that a major disincentive in the form of low, administered deposit rate is removed.

HBL 

RBI urged to evolve ‘know-your-bank' framework

Anticipating the possibility of banks outdoing each other with their new-found freedom to set interest rates on savings bank deposits, a bank depositors' body wants the Reserve Bank of India to evolve a ‘know-your-bank' framework for customers. This could serve as a guide to place deposits with banks having superior ratings. This demand from the All-India Bank Depositors' Association comes in the wake of the RBI announcing complete deregulation of the interest rate on savings bank (SB) deposits on October 25. Prior to the liberalisation, all banks paid the stipulated 4 per cent interest rate on these deposits. In view of the likelihood of higher interest rates being quoted on SB deposits of over Rs 1 lakh and non-availability of insurance cover on such deposits, it is all the more important that depositors know the financial standing/grading of banks before placing deposits with them, said Mr Ashok Ravat, Honorary Secretary, All-India Bank Depositors Association. The RBI, in its second quarter review of monetary policy last Tuesday, said that each bank has to offer a uniform interest rate on SB deposits up to Rs 1 lakh. In the case of SB deposits over Rs 1 lakh, banks may provide differential rates of interest.  Bank depositors, especially those placing deposits of over Rs 1 lakh, would do well to ensure the safety of the principal deposit amount and not get lured by higher interest rates that some banks may quote on SB deposits, cautioned Mr Ravat. Currently, insurance cover on bank deposits is limited to Rs 1 lakh per depositor on deposits held by him/ her at all the branches of a bank taken together. This cover is provided by the RBI's subsidiary, the Deposit Insurance and Credit Guarantee Corporation.  If a bank goes belly-up then the Corporation, which insures all bank deposits, such as savings, fixed, current, and recurring, can settle claims in respect of deposits up to Rs 1 lakh. The depositor has to bear the risk for deposits over this limit. The RBI knows the status of banks' health by virtue of being their regulator and supervisor. Hence, it should make the public aware of banks' financial health through a ‘know-your-bank' framework so that depositors are aware that they are placing deposits with strong banks, said the Association representative. When the RBI has prescribed that banks should strictly adhere to ‘know your customer' norms to prevent money laundering and financing of terrorism, customers too should have a ‘know-your-bank' reference framework so that they can place deposits with banks which have a relatively better regulatory grading.  “Before shopping around for higher interest rates on SB deposits, depositors should ensure the safety of their funds.  “The RBI knows the status of banks' health as it regulates, supervises and inspects them. There is no harm in putting the grades given to banks in public domain so that depositors can take their decisions to place deposits accordingly,” said Mr Ravat.

HBL

Curb fake currency to check inflation: RTI activist

Struggling hard to control surging inflation by making credit dearer, the Reserve Bank of India has got a peculiar suggestion: focus on counterfeit currency to fight spiralling prices. The prescription came through an application under the Rights to Information Act by an activist from down-south Kerala state. “In our country, where unaccounted and forged money are prevailing, if we ensure the security of the notes seriously, we can easily put the price index to a low level,” according to R Murali’s application to the central bank. To a query on what action RBI has taken in this regard, the latter refused to answer, saying this is not information that could be given under the RTI Act. The applicant also suggested a change in the design of the notes and the circulation of the new-look ones to offset the menace of the conterfeit currency floating in “large scales”.  The central bank refused to answer this too. However, RBI did inform the applicant that the process of strengthening design and security features was completed earlier in 2005 and the central bank periodically reviews these issues. There is no official estimate of the fake currency in circulation, thus making it difficult to assess its impact on fuelling inflation, it added. However, earlier this year, Global Financial Integrity had said the counterfeit rupee was becoming a cause of concern in India. “Fake rupees are believed to be printed in Pakistan and then channelled through Dhaka, Bangladesh and Bangkok, Thailand into Kathmandu,” according to its February report on ‘Transnational Crime in the Developing World’. The report had said Indian authorities estimate that as many as 400 million fake rupee notes with a value of some $9 million are in circulation in the state of Uttar Pradesh alone. Also, fake currency dealers in Nepal projected in 2009 that India would, by 2010, see the circulation of fake currency with the face value of nearly Rs 10,000 crones ($2.2 billion). RBI, in November 2009, had instructed banks to reissue notes in the denominations of Rs 100 and above over their counters or through ATMs — only after machines checked and confirmed their authenticity. For this purpose, banks should use such machines in all their branches having average daily cash receipts of Rs 50 lakh and above, the central bank had said. This year, wholesale price-based inflation in India refused to come below the nine per cent mark till last month, despite successive rate hikes by RBI. This, when the central bank had raised policy rates 13 times since March, 2010.

BS

RBI on board, DMO to be operational by FY12-end: FinMin

An independent debt management office (DMO), to handle the sovereign debt of the government, is likely to be fully functional by the end of the next financial year. The finance ministry would try to table a Bill to this effect in the upcoming winter session of Parliament. The ministry has sent the draft legislation to all stakeholders, including the Reserve Bank of India (RBI), and the comments are expected shortly. If all the stakeholders are on board, the ministry will seek the Cabinet’s nod to seek Parliament’s approval so that DMO can become operational in 2012. RBI has often voiced its discontent, on the proposed move of shifting debt management functions under its aegis to the North Block. While, a finance ministry official said all the differences with the central bank have been ironed out, the central bank has yet not publicly supported the move. “We are targeting the winter session for Public Debt Management Agency of India Bill. We need RBI’s comments for drafting legal provisions and various other technicalities. Our aim is to make DMO operational towards the end of the next financial year (2012-13),” said a finance ministry official.  Any objection by RBI, now, may scuttle the chances of introducing the Bill. The finance ministry, however, has said it has tried to address the concerns of RBI in the design and structure of DMO. Simultaneously, it has started preparatory action on setting up DMO. RBI Governor D Subbarao was against shifting DMO to finance ministry because of human resources and manpower issues. The finance ministry has assured that all 21 public debt offices of RBI will continue to function as they are doing today, but they will function at the behest of DMO. RBI’s another concern was, when DMO was thought of, the government’s fiscal situation was under stress. To this the ministry’s argument is, the government is on the path of fiscal consolidation. According to the finance ministry, with the setting up of the DMO, the dilemma of RBI between managing monetary policy and debt operations of the government will be eliminated. At present, both the government’s debt and fresh borrowings are managed by the central bank. The finance ministry feels there is a conflict of interest and wants to separate RBI’s role as the decider of interest rate in the market and at the same time being the banker to the government. Earlier this year, RBI Governor D Subbarao had said only the central bank had the requisite expertise to manage market volatility, and an independent debt agency, driven by narrow objectives, would not be able to do. Finance minister Pranab Mukherjee in his Budget speech of 2011-12 had proposed to introduce the Public Debt Management Agency of India Bill in the next financial year.

BS

Banks caught in RBI-finance ministry divide

Central bank unhappy with North Block’s EMI diktat to banks, asks for more provisioning

Just a few months after the finance ministry asked public sector banks to increase the tenure of home loans, the Reserve Bank of India (RBI) wants banks to increase provisioning for such extensions as they amount to asset restructuring. The ministry’s directive in August asking banks not to increase equated monthly instalments (EMIs) and instead increase the repayment tenure was aimed at providing some relief to customers amidst painfully high interest rates. But, the banking regulator isn’t amused by the directive. It sees this as encroachment on its turf. The RBI has asked banks to treat a home loan tenure increase as loan restructuring. As a result, additional capital is required to be set aside for those loans. Banks are already facing pressure on asset quality, following the economic slowdown amid high interest rates. The additional provisioning requirement will add insult to injury as it will deplete their bottom line further. According to RBI norms, standard assets restructured by banks will be immediately reclassified as sub-standard assets and attract higher provision. Bankers say they are sandwiched between the RBI and the government. “The government directive has clearly not gone down well with the regulator. The central bank is of the view the government should have consulted it before taking such a decision. Any such circular is ideally issued by the regulator,” says a senior banker. Several banks, including State Bank of India, Syndicate Bank and Central Bank of India, increased the home loan repayment tenure to 25-30 years, as compared to 20 years earlier, after the finance ministry circular. Some of the banks, which were not willing to increase the repayment tenure, approached the RBI for a clarification on the provisioning requirement, and were told there would be no let-up on that. Bankers said increasing the EMI tenure for a couple of years was a common practice done by way of an informal understanding with customers. “However, now that the government wants to make it mandatory by issuing a circular, the RBI wants us to play by the book,” says another banker. Banks now blame the finance ministry for making an informal practice mandatory, for which they have to pay the price in terms of higher provisioning. The issue was also raised during the post-policy meeting of bankers with senior RBI officials on October 25. In the second quarter review of the policy, the RBI had announced the constitution of a working group to review existing guidelines on restructuring of advances. Bankers who attended the meeting said the working group was also expected to take up the issue.

BS

Bank Staff Begin 72-Hour March to Mumbai

Thousands of citizens along with employees of Pen Urban Cooperative Bank from Maharashtra's Raigad district Sunday started a march to chief minister's bungalow in Mumbai to press for their demands. As a part of the 'Save Pen's Bank' movement, depositors, employees and account holders of the bank from Pen town of the district started the 72-hour march to Mumbai. The movement was supported by the All India Bank Employees Association (AIBEA) and the Maharashtra State Bank Employees Federation. The Reserve Bank of India (RBI) in September last year imposed stringent restrictions and passed an order for the closure of 18 branches of the Pen Bank. Despite this the bank was said to have released loans for over Rs.500 crore to non-existing account holders without verification of documents. The RBI, in October last year, imposed a penalty of Rs.1 lakh as the bank failed to satisfactorily respond to a show cause notice. "The 72-hour march will culminate at Chief Minister Prithviraj Chavan's residence where a delegation of bank representatives will meet and apprise him of the situation," said Vishwas Utagi, general secretary of AIBEA. "Several employees have lost their jobs and thousands of depositors and account holders have lost their money due to many scams by the bank's chairman and directors," he added. In November last year, bank chairman Shishir Dharkar, his wife and six others were arrested in connection with another scam related to gold export worth Rs.480 crore.

http://www.daijiworld.com/news/news_disp.asp?n_id=120606

Saved by RBI

Savings rate deregulation could be a bonanza for small depositors

The Reserve Bank of India (RBI) has at last rung down the curtain on administered lending rates by freeing the interest rate on savings bank accounts. The interest rate was pegged at four per cent in May after remaining unchanged for eight years. Banks will now be free to pay whatever they like as long as they offer a uniform interest rate on savings bank deposits of up to Rs 1 lakh, beyond which differential rates can be offered depending on the size of deposits. Being able to get away with paying less was a crutch that was offered to the state-owned banks in order to give them time to get ready to face competition implicit in a level playing field. Twenty years, since the reforms began, is a long time in which to grow up. The move will be an invaluable gain for ordinary depositors, who have been getting the short end of the stick by earning a pittance for their money at a time when inflation has been running close to 10 per cent. Banks have a point when they say that these accounts are mostly run like current accounts to meet day-to-day obligations and so do not deserve to earn any interest. If interest rates are free to ride the market, then bank charges should also be levied on the number and size of transactions. But with core banking in place, banks’ cash management capabilities have undergone a considerable change and banks deserve to be compensated only for any fluctuation that their aggregate current account savings account (Casa) deposits face from large numbers of small transactions that cannot be attributed to any extraneous factors. Banks are, in fact, benefiting from the increasing use of electronic cash transfers. People keep less cash at home (maintain higher bank balances) because they can make just-in-time electronic withdrawals and payments, thereby posing no additional costs for banks since the days of manual ledger posting are gone. Freeing savings bank interest rates has several systemic benefits. One, greater competition will force nationalised banks with large Casa funds to offer better service. Two, for the central bank, transmission of monetary policy signalled through policy rate changes will improve. Three, the overall efficiency of the banking and financial system will also improve. This will enable India to further differentiate itself from China, which has a more regulated and inefficient financial system. Under it ordinary depositors are fobbed off with low interest rates and large state-owned units are able to borrow and invest cheap. Ordinary Chinese are chafing at the inequity of low interest rates on their large savings which are unable to fetch them what matters the most: housing, which a property bubble has made unaffordable. But the regulator should also look at complaints from nationalised banks that they are operating on an uneven playing field since the onus is on them to promote rural banking even as the smaller, private banks with fewer diseconomies of scale cream off the better business. The cost of delivering financial inclusion should be carefully calculated and those undertaking the task should be suitably compensated.

BS

BOM gives training to CBI officials

Nabard moves govt seeking more autonomy

Nabard currently has to secure prior approval from the Reserve Bank of India (RBI) if it wants to lend to any firm outside its jurisdiction, such as NBFCs, chairman Prakash Bakshi said.  Nabard is seeking more autonomy for its board to decide the creditworthiness of potential borrowers without consulting RBI for each plan, Bakshi said. “What we have suggested to the government is that why should we ask RBI (if Nabard wants to lend to new types of institution),” he said. “Nabard’s board should be able to decide if this is a new type of institution, the terms and conditions, and the eligibility of the party.”

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The Art of Inflation Management

...While this part of the discourse may be broadly described as the science of inflation, there is also the art of controlling inflation devisiting country specific and situation specific anti- inflationary measures. Both the science and art of controlling inflation are equally important and should be mutually supportive. The art of inflation management extends beyond text book punditry......

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Economy slips through leadership gap

After dinner at a tony Delhi restaurant on Monday night,a group of bankers asked themselves whether RBI governor Duvvuri Subbarao would raise interest or hold rates the next morning.The 4-2 majority was in favour of a hold. Next day rates were hiked for the 13th time in a row............

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RBI’s ill-timed adventure

... In pandering to market expectations and playing to the corporate gallery, the latest monetary and credit policy may have just made the macroeconomic situation much more difficult and uncertain than it already was.....

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Voting inflation

...If the government continues to come up with policies aimed at the next elections, RBI may have no option but to get back to rate hikes sooner rather than later......

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Why India’s monetary policy is a failure - Sarajit Majumdar

Inflation affects the purchasing power of people adversely. Especially food price inflation affects the poor and the low income groups harder than the higher income groups. In India, the annual food price index rose by 10.6%, during the week ending October 8 compared to last year. Pushed by food prices the headline inflation has reached an alarming 9.72%. The latest hike in index is nearly double the rate that the Reserve Bank of India expects — annually 5% or 6%. The inflationary pressure is not due to supply bottleneck in food grain. In fact, food grain production in India has reached a record 241 million tonnes in the agricultural year 2010-11, compared to 218 MT in 2009-10. Food inflation has been a worldwide phenomenon since late 2008. The phenomenon is attributed to large scale diversion of crop land to biofuel production, loose money policy, fiscal imprudence and rise in fuel prices. Fuel price has indeed contributed to food price hike in India. But the other reasons do not apply to the Indian economy. Deficit financing is on a leash. So is monetary policy. In order to tame the rising food price index, the RBI is trying to control money supply in the economy by raising repo rates, at which it lends to other banks, and reverse repo rates, at which it borrows from other banks. Already the RBI has hiked the repo rate by 3.25 percentage points in 12 installments since March 2010. This has jacked up the interest rate in commercial banks. High bank rate discourages investment and encourages savings, thereby reducing aggregate demand. However, the increase in the interest rate has done little to contain food inflation. On the contrary, costlier loan has hampered the growth rates of Gross Domestic Product and industrial output in the current fiscal’s first quarter. According to the RBI, while industrial growth rate decelerated, agricultural growth rate accelerated in this period. Yet the food price index soared upward. This clearly is a failure of the country’s monetary policy or monetarism itself, endorsed by the International Monetary Fund. Prof C Rangarajan rightly commented that increasing interest rates will reduce demand only in the housing and car markets. He does not envisage easing food inflation before the middle of 2012.  Rangarajan’s point is bolstered by the fact that the RBI’s tight money policy hardly has any impact on food price inflation. The failure of the monetary instrument in controlling inflation of basic food articles follows from exposing Indian agriculture to free market forces in many ways. Unlike the industrial sector, the agricultural sector functions outside the organised money market. Farmers undertake production not for cash alone, but also for subsistence. Irrespective of monetary policy, agricultural production must take place. Thus, farmers have to use costly fertilizer, pesticides, and irrigation to derive maximum yield. The gradual reduction of state subsidy in fertilizer, pesticides and electricity for pump irrigation has escalated production cost. Deregulation of the petroleum sector, and allowing the oil PSUs to operate in a free market has imposed an additional price burden on farmers, as oil price keeps rising. Oil price hike, at double digit rates, results in higher transportation cost for agricultural commodities as also higher production cost for farmers using diesel pump sets for irrigation. At the level of marketing and distribution of agricultural products, speculative commodity trading becomes active in influencing market prices. Futures trading and hedging in agricultural commodities can add to inflationary pressure. Prices of futures trading influence the spot market prices in commodity. A high price quoted in the futures market means a high spot price. In 2008, owing to high prices of potato, rubber and soy oil, the government had to ban commodity trading in these items, though with little effect. As the government, at the behest of international financial institutions, is encouraging more of market economy and less of state role, the agricultural sector suffers due to the market’s vagaries. Traders and hoarders call the shots. The public distribution system is slack. Under such circumstances, the state’s distributional intervention was necessary but it stood aloof. So much so that when wheat was rotting, the Supreme Court suggested that the excess wheat be distributed to the poor free of cost. The prime minister refused. Had the wheat been distributed free, the price of wheat in the market would have crashed. Just to prop up commodity trading and corporate retailers, the government fought the suggestion. That is why only indirect measures like monetary policy is resorted to combat inflation.

The writer is a Kolkata-based economist, and a former member of faculty of Madras Institute of Development Studies, Chennai. (DNA)

'RBI may lower growth projection'

..."Our FY12 Gross Domestic Product (GDP) growth forecast remains at 7 per cent with downside risks and we think the RBI may need to still revise its growth forecasts downwards," said Goldman Sachs Global ECS Asia Research in 'Asia Policy Watch'......

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Anxious wait on for high interest on savings

... Even as the RBI has left it to the banks to fix the interest rate for savings account, few of them are already in a "client-pleasing mode."...

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Interest rates: Breaching the last dyke

....Regulation of deposit interest rates is by no means specific to India, but has been adopted in the past in most countries, and continues to prevail in many countries including China.....

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LIFE AFTER SAVINGS BANK DEREGULATION

...freeing of savings bank accounts will encourage foreign and new private banks to enter rural India, the traditional stronghold of state-run banks, to raise relatively cheap money.....

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Savings account interest rate deregulation will not benefit customers much: Dhirendra Kumar, Value Research

.... If you are the kind of bank customer whose savings account has an average balance of 1 lakh, then you're going to make about 166 a month extra by the time the dust settles down. That's not a sum that matters to you. If your average balance is 2,000 then you will be left richer (if that's the word) by 3.34 a month and there's no one to whom that sum matters. If you actually have a sum in a savings account on which this loose change matters to you, then you probably don't exist. Otherwise you would have heard of fixed deposits......

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The effect of deregulation of savings account rates

...There are two possible outcomes, interest rates on savings accounts can either move down wards or upwards. It is more likely that the savings rate will move upwards given the current competitive conditions......

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Regulating cooperative banks – M.S.Sriram

In discussions on banking licences, one rather ignored area is that of urban cooperative banks (UCBs). This has remained somewhat below the radar. However, it appears that there might be some action in this space if the Reserve Bank of India (RBI) considers issuing licences for new urban co-operative banks in the near future. A recent report submitted by an expert committee of RBI, led by Y.H. Malegam, lays down some of the principles for issuing new licences.......

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Mushrooming gold loan business now under RBI scanner

The thriving gold loan business in India has come under the scanner of the Reserve Bank of India (RBI). With a sudden spurt in gold loan companies across the country, the regulator has put such companies under its watch to identify the possibility of any systemic risk..........

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