Coronavirus Outbreak: MPC Cuts Benchmark Rate By 75 Basis Points, Slashes CRR

India’s Monetary Policy Committee cut its benchmark interest rate as it advanced the scheduled April announcement. It combined its steepest rate cut since the global financial crisis with a sharp reduction in the cash reverse ratio.

The emergency rate cut comes amid rising concerns over the domestic economic fallout of the spreading novel coronavirus, with more than 700 infected in India. A 21-day lockdown announced by Prime Minister Narendra Modi on Tuesday has brought close to 75 percent of the economy to near standstill.

Terming the macroeconomic risks from the pandemic as “severe”, the MPC announced:

• A cut in the repo rate by 75 basis points to 4.40 percent, while retaining its “accomodative stance”. This takes the repo rate to its lowest since 2004 when it was at 4.5 percent.
• The MPC cut the reverse repo rate by an “asymmetrical” 90 basis points, so as to make it unattractive for banks to deposit funds with RBI. The reverse repo rate has been reduced to 4 percent.
• The cash reserve ratio has been slashed by 100 basis points to 3 percent. This is the lowest since 1962.

Given the uncertainty in the economy, the MPC did not provide any growth or inflation estimates for the year. It said that risks can emerge both from the demand and the supply, adding that the central bank will do whatever is necessary to shield the economy.

Economists are forecasting a steep fall in growth in the fourth quarter of the current fiscal year and in the financial year beginning April 2020. Some estimates, such as one by SBI Economic Research peg growth as low as 2.5 percent in FY21. CRISIL and Barclays expect growth at 3.5 percent next year.

“The MPC is of the view that macroeconomic risks, both on the demand and supply sides, brought on by the pandemic could be severe. The need of the hour is to do whatever is necessary to shield the domestic economy from the pandemic,” the MPC said. It added that the priority is to “undertake strong and purposeful action in order to minimise the adverse macroeconomic impact of the pandemic.”

The MPC also called for coordination with other regulators such as the Securities and Exchange Board of India to ensure smooth functioning of the markets. It sought fiscal support from the government to support the sharp downside risks in the economy.

Going Beyond Rate Cuts

India’s MPC, which has so far stuck to its narrow mandate of targeting retail inflation using the repo rate, took a wider view of the economy this time around. The RBI announced a series of supportive liquidity and regulatory measures to complement the rate cuts.

• The central bank announced Rs 1 lakh crore in targeted long term repo operations of a three-year tenure. Banks can avail of these funds at a variable rate close to the repo rate and deploy them in corporate bonds, commercial paper and debentures of investment grade corporates. These securities can be placed in the held-to-maturity portfolio of banks and hence won’t attract mark-to-market losses or gains.
• In times of stress, banks can dip into their mandated pool of government securities or the ‘statutory liquidity ratio’ to borrow from the RBI’s marginal standing facility. Earlier banks could use up to 2 percentage points of their SLR for such borrowings. This has now been increased to 3 percentage points.
• In addition, the 100 basis point CRR cut announced will release Rs 1.37 lakh crore into the system.

Separately, the RBI also allowed Indian banks to deal in the non-deliverable forwards market via their operations in the international financial centres.

The central bank, which also regulates the banking sector, has also offered relief to borrowers:

• A moratorium on loan repayments for three months on all term loans and working capital loans has been announced. This will apply to all banks, non-bank lenders, microfinance companies.
• Banks have been allowed to recalibrate working capital lines and this will not prompt any change in asset classification.
• The implementation of the last tranche of 0.625 percent of the Capital Conservation Buffer has been delayed from March 31, 2020 to September 30, 2020.

Comprehensive Package, Say Economists

Most economists and money market experts saw the package as comprehensive.

The RBI’s package is fairly comprehensive and though it’s response came later than expected, it has been worth the wait, said Sonal Varma, chief India economist at Nomura.

RBI has delivered relief to the financial system through this package, said Ananth Narayan, associate professor at SP Jain Institute of Management and Research.

Rates will likely move towards the lower end of the corridor closer to the reverse repo rate of 4 percent, said Arvind Chari, head of fixed income at Quantum Mutual Fund. “RBI’s response has been very bold,” he said.