The First Monetary Policy of 2015-16 carried forward the pro-growth stance of the Union Budget in two distinct ways. First, a 25 bps cut in the key repo rate signalled that the RBI was willing to ease monetary policy to complement the fiscal discipline of the government. Second, radical changes in the liquidity management framework – implemented through a sharp narrowing of the money market corridor and a gradual move to a liquidity neutral system -are expected to ease the structural liquidity woes of the banking system. This step, along with the recent decisions to reduce interest rates on small savings and the shift of banks to a Marginal Cost Lending Rate system, should improve monetary transmission.

Yet the initial market reaction to the monetary policy was not positive: the BSE sensex lost nearly 2% on the day of the announcement. Markets were expecting a larger rate cut, given the relative optimistic growth/inflation outlook: CPI inflation is forecast to be a moderate 5%, and gross value added is projected to grow by 7.6% in 2016-17. Other indicators also suggest that the economy is quite stable. Low oil prices have boosted India’s economic credibility – the current account deficit is below 2%, oil subsidies are under control, and the government has used this period to initiate direct transfer of benefits in cooking gas. Foreign Direct Investment (FDI) worth $34 billion has flowed in until February 2016, and 2015-16 may end up as the year with the highest FDP inflow so far. Surveys of consumer confidence show buoyancy, especially with respect to income and economic conditions. Yet growth remains vulnerable to both internal and external risks. Global trade and world growth are sluggish, as a result of which India’s exports have been contracting for more than a year. Global financial markets remain highly volatile; and any risk-off sentiment could lead to sudden capital outflows and a depreciation of the exchange rate. A rise in commodity prices, especially oil, due to geo-political disturbances in the Middle East, could also take away India’s macro advantages and expose it to rising inflation and external imbalances. On the domestic front, a revival in private investment is limited by the highly leveraged balance sheets of the corporate sector, and low capacity utilisation (about 72%) in the organized industrial sector. Production of manufactured goods (as measuring

by the IIP-manufacturing Index) has been shrinking since November 2015. In particular, production of capital goods has been very volatile. The much-tracked Nikkei Purchasing Managers Index (PMI) for manufacturing is almost flat, though there was an improvement in March 2016 on the back of strong growth in new orders. In the second half of 2015-16, some service sub-sectors, such as travel, hotel, transportation, communications, public administration and defence, showed expansion. However, agricultural output is likely to contract due to weather-related damage to key winter crops.

Given this patchy and uncertain growth outlook, the most reliable sources of growth are likely to be domestic consumption and public investment. The award of the Seventh Pay Commission and OROP dues, measures to boost to rural demand in the Budget, and lower borrowing rates are expected to collectively improve domestic consumption. The budgeted higher government capital spending on social and physical infrastructure could also stimulate growth. Finally, rural demand would pick up if the monsoon turns out to be normal after two below-nor-mal years. Under these conditions, a small 25 bps rate cut, magnified by better transmission and higher systemic liquidity, could act powerfully to boost demand.

ASCENTMonetary Policy and Economic Outlook - Uma Shashikant & Deepa Vasudevan

18th March, 2016

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The Paradox of High Fiscal Deficits with Low Debt Ratios - Deepa Vasudevan

The debt-GDP ratio, or the ratio of total government debt to nominal GDP, is often used as a measure of national indebtedness. This ratio includes both domestic and external liabilities of the Central and state governments. Since governments borrow from the markets to fund their fiscal deficits, high and rising deficits should be associated with rising debt-GDP ratios, whereas declining fiscal deficits should be reflected in declining indebtedness. However, India has been able to combine fiscal profligacy with a declining debt ratio. As the picture shows, despite a deterioration in the combined fiscal deficit of the centre and states from 2008-09 onwards, the debt GDP ratio has shown a steady decline over the last decade. In fact, the 2015 debt-GDP estimate of 65% (Source: IMF WEO database) is much lower than the 100% plus levels in advanced countries. This paradox is explained by the relatively high inflation faced by India after 2009. The presence of inflation increases nominal GDP, which is the base of the debt GDP ratio. Thus even if an economy is not growing strongly in real terms, and in addition, is running high fiscal deficits, by inflating the value of nominal GDP, inflation helps to erode the value of debt of both current and previous years. But with the sharp fall in prices in recent months, India may no longer be able to count on inflation to ensure a healthy debt ratio. Instead, prudent fiscal management may be necessary. necessary. achieving its own objective of price stability.

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Understanding

Wilful Default

A default on payment obligations to the lender is said to be wilful when one of following conditions occur

Who Can be a Wilful Defaulter?An individual, juristic persons and all other forms of business enterprises, whether incorporated or not

In case of business enterprises other than companies, persons who are in charge and responsible for the management of the affairs of the business enterprise

Guarantors may also be considered as wilful defaulters

Insight

0

5000

10000

15000

20000

25000

30000

35000

40000

45000

Financial Institutions Foreign Banks Nationalized Banks Private Banks SBI and associate banks

Rs.crore Snapshot of Wilful Defaulters of Rs.25 lakhs and above as on Dec 31, 2015: CIBIL Data

Name and Shame Defaulter

Take Legal Action for Loan Recovery

Criminal Action may be taken in case of Fund diversion or wrong end-use

Handling Wilful Default

Bulk of the wilful defaults are in the books of nationalized banks

(c) Moneykraft. A Centre for Investment Education and Learning Initiative

Borrower defaults despite being financially capable of payment

Securities to the loan have been disposed off or removed without lender's knowledge

Records have been misrepresented or falsified

Borrowed funds have been siphoned off from the company

Funds are diverted and not used for the purpose borrowed

Source: RBILending rate is the base rate of SBI

Key Rates in the Economy

4

5

6

7

8

9

10

11

Jul-1

3Au

g-13

Sep-

13O

ct-1

3N

ov-1

3De

c-13

Jan-

14Fe

b-14

Mar

-14

Apr-

14M

ay-1

4Ju

n-14

Jul-1

4Au

g-14

Sep-

14O

ct-1

4N

ov-1

4De

c-14

Jan-

15Fe

b-15

Mar

-15

Apr-

15M

ay-1

5Ju

n-15

Jul-1

5Au

g-15

Sep-

15O

ct-1

5N

ov-1

5De

c-15

Jan-

16Fe

b-16

Mar

-16

Apr-

16

%

Reverse repo Repo MSF Bank lending rate

Source: RBI

How Inflation Reduces the Debt Ratio

0

1

2

3

4

5

6

7

8

9

10

50

55

60

65

70

75

80

85

2003

-04

2004

-05

2005

-06

2006

-07

2007

-08

2008

-09

2009

-10

2010

-11

2011

-12

2012

-13

2013

-14

2014

-15

Fiscal Def/GDP (%)

Debt/GDP (%) Fiscal Deficit to GDP Debt to GDP