Will RBI's 'QE Lite' Boost Credit Growth?

Thu, 7 Apr Pre-Open

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The monetary policy announced by Raghuram Rajan, the governor of the Reserve Bank of India (RBI) saw the repo rate cut by 0.25% to 6.5%.

More importantly the measures were announced to ensure the banks are able to pass on the benefits to its borrowers.

Transmission of rate cuts has been an issue which the RBI has looked to address in their policy this time around.

Here is what the RBI has done to ease liquidity concerns amongst the banks.

1. Reduced the cash proportion of banks' reserve requirements that must be kept with the central bank (from 95% to 90%).
2. Raised the Reverse repo rate by 0.25% - the rates lenders charge to the central bank.
3. Announced open market operation to buy bonds to inject Rs 150 bn into the system this week.

The first measure will help the banks have more free cash at its disposal. A cut in the repo rate while increasing the reverse repo rate implies that banks will pay less when they borrow from the RBI and get paid more when they park their excess funds with the RBI.

One of the major issues the central bank addressed yesterday was about liquidity deficit. Put it simply the banks are currently facing cash shortage to the tune of greater than 1% of net demand and time liabilities. This could be about Rs 1.5 trillion. Thus the central bank will look to infuse cash in the system by conducting open market operations. In this process the RBI looks to buy the bonds from the banks and in turn provide the banks much needed cash.

The policy was more focused on addressing liquidity shortage and easing the transmission mechanism. It will be important to watch out how the banks react to these measures and whether they would now be in a position to pass on the benefits to its customers. Whether or not the banks are able to lend more will depend on whether the banks reduce their lending rates commensurately.

Interestingly, Vivek Kaul dubbed the RBI's liquidity expansion measures as 'QE Lite'. Never heard of that?

Well, Vivek Kaul claimed in his Diary that the RBI made this brand new offering in the Monetary Policy yesterday. Vivek as you know, has the skill to make the most complex regulatory nitty gritties sound amazingly simple. And his latest view comparing RBI's liquidity infusion measures to the US Fed's QE makes for a very interesting read!

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