Wednesday, October 12, 2016


The latest RBI initiative under the new Governor, Mr. Urjit Patel of cutting the Repo Rate by 25 basis points might have pleased both the hawks as well as the doves of monetary policy. However, other leading metrics of growth like the IIP, credit growth to industry etc. have reported declines showing that this may turn out to be a dud cut after all.

The policy makers are perhaps hoping to bank on the boost in private consumption from festivals to drive domestic economic growth. The close to normal monsoon and the disbursement of pay commission bounty together are expected to boost urban spending. Yes, there are positive signs of revival in consumption demand as shown by the rise in the automobile sales in September of 20% - the highest in the past four and half years.  Airlines have reported a robust 23% growth in passenger traffic between April and August this year which works out to a 20% growth over the previous year. Pizza Hut and KFC have reported a robust same store-sales growth in September quarter after 11 straight quarters of decline.

This urban boost will put pressure in prices of most commodities except food perhaps - the latter would benefit from a good harvest. However, the overall private investment has remained muted due to excess capacity and high leverage across firms, according to a CRISIL report.

Disturbingly, the industrial production (IIP) has declined 0.3% year - on - year between April and August 2016 caused by a decline in manufacturing and weak growth in mining. Manufacturing output has fallen 0.3% in August over a decline of 3.4% in July 2016. The mining output is down 5.6% against growth of 0.9% in July. Electricity generation is up by 0.1 % against growth of 1.6 % in July. Cumulatively (April-August) IIP has declined 0.3% this year as against 4.1% increase in the corresponding period of the previous year. Adding to these woes is the abysmal performance of the bank credit growth to industry which has fallen to less than zero (-0.2) as against the January 2016 figure of +5.6%.

Economists say that this contraction reflects high unutilized capacities in industrial units and significant investments not taking place in industry. In such as scenario, a cut in interest rate can hardly give an impetus to fresh investments.

Therefore, the rate cut of 25 basis points obviously is not likely to trigger an investment cycle. It might possibly just send a signal for consumption boost, which ultimately might even generate its own inflationary pressure. In this context, the new Governor’s subtle shift of the goal post in inflation fighting - from targeting 4% CPI inflation to 4 - 6% CPI inflation band is troublesome. It might appease certain business groups without doing any good in terms of boosting industrial production.
In the end, what purpose has this rate cut achieved?


Prof. K. K. Krishnan
Chairperson - CCR &
Prof. Centre for Insurance & Risk Management
Birla Institute of Management Technology

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