The markets were expecting some big bang announcements from the RBI and the central bank did not disappoint. It even advanced the MPC meet to finalize crucial monetary decisions to provide an antidote to stressed financial markets.

A much bigger rate cut

The real surprise was not just the timing but also the quantum of the rate cut. The RBI dropped the repo rates by 75 basis points from 5.15% to 4.40%. In addition, the RBI tweaked the spread to ensure that reverse repo rates were pushed lower by 90 bps. This will ensure the quicker transmission of the rate cuts to the final borrower. In addition, rate cuts are also likely to sharply bring down the bond yields in the Indian market and that will reduce the borrowing costs for Indian corporates across the board. But will this really work in the Indian context is the million-dollar question?

There are three aspects to take note. Firstly, this is the lowest level of repo rate that India has ever kept and that largely reduces the leeway for further monetary action. Secondly, big rate cuts take time to translate into borrowing costs because the rates of interest on small savings still remain quite high. Till that reduces, the transmission will leave a lot to be desired. Lastly, the certain benefit will be for the bondholders like banks and mutual funds as they will see an immediate appreciation in the value of bonds held by them.

CRR is cut by 100 bps

The RBI did not stop with rate cuts alone. Apart from the 75 bps of rate cut, the RBI cut the CRR from 4% to 3% of the net demand and time liabilities (NDTL). This is expected to infuse about Rs.137,000 crore liquidity in the system. If you add up the bond-buying and the LTRO that the government will take up, the total infusion of liquidity will be to the tune of Rs.374,000 crore ($50 bn). This is likely to be critical in two ways. Firstly, it will ensure that the yields don’t become volatile due to the liquidity shortfall in the system. Secondly, this will help bring down yields at the short end and protect the slope of the yield curve.

EMI freeze should be smarter

To ease the pain of the lockdown, the RBI also gave a 3-month moratorium on term loans, working capital loans, and individual loans. This is a great move but is likely to fall short for two reasons. Firstly, the waiver is subject to the approval of the bank board and the decision will be at the discretion of the bank. Ideally, it should have been a blanket instruction to the banks, with compensation issues to be worked out later. Secondly, the RBI has announced that interest will continue to accrue during the waiver period. That literally makes the waiver ineffective. This is not just an issue of liquidity management but also of the loss of jobs and incomes. This could surely have been managed a lot better.