First it was the Federal Reserve. Then the European Central Bank. Now, India’s monetary authority may look to the Bank of England for ideas to revive growth, economists say.
The Reserve Bank of India could possibly draw inspiration from BoE’s Funding for Lending Scheme to jump start loan growth in the economy that’s set for its weakest expansion in 11 years, said A Prasanna, chief economist at ICICI Securities Primary Dealership Ltd. in Mumbai.
The central bank has so far taken a leaf each from the Fed and the ECB’s books to manage bond yields using unconventional tools, as galloping inflation keeps it from cutting interest rates. In December, the RBI announced a Fed-style ‘Operation Twist‘ — buying long-dated bonds and selling the shorter tenor ones. This week, it will start long-term repo operations to inject $14 billion into the financial system, inspired by the ECB’s use of long-term loans to banks.
Both measures are aimed at pulling down corporate borrowing costs that are benchmarked to the sovereign bond curve, analysts say.
“It makes sense that the RBI is looking at tools that have been tested by other central banks,” said Rishi Mishra, an analyst at trading firm Futures First in Gurugram, near New Delhi. “As long as they apply it correctly in the Indian context, it should yield results.”
Under the FLS, Mr Prasanna said, the BoE accepted eligible collateral from banks and building societies at a haircut and swapped it for nine-month Treasury bills that could be rolled over for up to four years. The operation lowered funding costs for banks and increased net lending to the non-financial sector, he said.
Breaking the Logjam
The RBI’s five rate cuts last year failed to spur credit demand, mainly because banks grappling with bad loans failed to fully pass on the reductions. The weighted average lending rate on new rupee loans sanctioned by banks declined by 69 basis points while those on outstanding rupee loans fell by 13 basis points during February-December — less than the 135 basis points of cuts by the RBI during that period.
“It is because the banking and financial system plumbing is blocked in India, conventional interest rate signals are not gaining any traction,” said ICICI’s Mr Prasanna. “RBI’s actions like Operation Twist and LTROs are intended to break this logjam.”
Despite the glut, loan growth is languishing near two-year lows, forcing the central bank to experiment with more uncommon methods to boost credit while keeping borrowing costs low. That is not an easy task because India’s huge public debt overhang crowds out private investment.
Governor Shaktikanta Das told reporters earlier this month that the central bank has more tools than the regular repurchase rate at its disposal. That meant he would take more steps to ensure that policy transmission is effective.
That makes lessons from the developed nations’ central banks all the more valuable for the RBI.
“Some 15 years ago, one couldn’t think of this,” said Taimur Baig, chief economist at DBS Bank in Singapore. “But as India is part of the G-20, we are seeing it increasingly adopt lessons from other central banks.”