During the Monetary Policy Committee meeting earlier this month, one of members pointed out the potential threat to financial stability as measures to ease the coronavirus pains are removed. Michael Debabrata Patra called for measures to ensure long-term support to nascent recovery in credit growth, as per the minutes from the meeting.
"Concerns about financial stability have risen. The recent new highs scaled by equity markets could be driven by irrational exuberance; it is difficult to tell in an environment of exceptionally low interest rates all around, large corporate profits but still no capex to write home about, and high levels of market borrowings," Patra noted.
Although banks have bolstered their capital buffers in comparison to the global financial crisis, the stress in the financial sector's balance sheets could intensify as loan moratorium, asset classification standstill and restructuring are withdrawn in coming days, he mentioned.
"Capital infusion and innovative ways of dealing with potential loan delinquencies need to occupy the highest policy attention so that the embryonic recovery in credit growth can be nurtured into a more durable trajectory that also fuels the macroeconomic recovery," Patra stated.
"Strong complementarities are emerging between financial and macroeconomic stability. The best results will obtain when monetary policy ensures that the nominal anchor is firmly moored," he further added.
In the Monetary Policy Committee (MPC) meeting, Patra said that the near-term outlook for inflation appears less risky in comparison to the near-term challenges for growth which warrant continuing policy support, "at least until the elusive engine of investment fires and consumption, the mainstay of aggregate demand in India, stabilises." Trade-offs facing the conduct of monetary policy may become sharper in the near-term, he added.
"Shocks to economic activity from the winding down of exceptional pandemic measures will have to be balanced against the persuasive incentive to continue with them but with the risk of becoming immobilised in liquidity traps," Patra said.
In its last meeting from February 3-5, the MPC had unanimously retained policy repo rate at 4 per cent. The panel decided to maintain its accommodative stance for the remainder of current and next financial years to revive growth and mitigate the impact of COVID-19 on the economy, while maintaining CPI inflation within RBI's tolerance band.