In an unprecedented move, the Reserve Bank of India in its monetary policy statement (MPS) announced a massive 75 basis points (bps) cut in repo rate coupled with 100 bps reduction in cash reserve ratio (CRR) to mitigate the impact of coronavirus pandemic on the economy. The reverse repo rate was slashed even bigger by 90 bps to reduce financial stress on banks and encourage them to lend more money to businesses.
The policy measures taken by the RBI will sizeably expand liquidity in the system, which will ensure that financial markets and institutions are able to function normally in the face of COVID-19 related dislocations. This will also reinforce monetary transmission so that bank credit flows on easier terms are sustained to all those who have been affected.
Relaxing repayment pressures and improving access to working capital will lessen financial stress and improve the functioning of markets.
Given the weak sentiment, the liquidity boosting measures will provide big stimulus for banks to lend aggressively. The reduction in the policy repo rate under the liquidity adjustment facility (LAF) by 75 basis points to 4.40 per cent, from 5.15 per cent, will inject sufficient liquidity in the system.
The cash reserve ratio (CRR) of all banks has also been reduced by 100 bps to 3 per cent of net demand and time liabilities (NDTL) with effect from fortnight beginning March 28, 2020 for a period of one year. This reduction in the CRR would release primary liquidity of about Rs 1.37 lakh crore uniformly across the banking system, which will allow the banks to release money into the economy and help their ability to raise capital.
Considering the hardships faced by banks in terms of social distancing of staff and consequent strains on reporting requirements, the RBI has also reduced the requirement of minimum daily CRR balance maintenance from 90 per cent to 80 per cent. This is a one-time dispensation available up to June 26, 2020. CRR is the percentage of deposits that banks have to mandatorily hold as reserves with the central bank. The reduction in CRR was last done in February 2013 by 25 bps.
Commenting on RBI's policy measures, V K Vijayakumar, Chief Investment Strategist at Geojit Financial Services, said, "the combination of measures to boost liquidity, improve monetary transmission and relax repayment pressures will act with force multiplier in the economy. RBI has done a great job. As the Governor said, 'tough times don't last, but tough institutions do'. RBI has shown that it is tough."
"The measures should help in tiding through the end of the year issues which many banks/institutions were fearing and will go a long way in cushioning the dislocations in various markets," said Upasna Bhardwaj, Senior Economist, Kotak Mahindra Bank.
"We expect additional scope for 40-50 bps of rate cut with any further easing and extension of measures depending on the nature of spread of COVID-19," she added.
In the seventh bi-monthly policy meeting, all members of the monetary policy committee (MPC) voted for a reduction in the policy repo rate and maintaining the accommodative stance to revive growth and mitigate the impact of COVID-19 on the economy, while ensuring that inflation remains within the target.
In the last two months, the RBI has taken several measures to improve liquidity, monetary transmission and credit flows to the economy and provide relief on debt servicing.
Amid COVID-19 outbreak, financial markets have become highly volatile resulting in panic sell-offs and wealth destruction in Indian equity markets, in line with the global peers. The RBI and the central government are in war mode, responding to the situation with several conventional and unconventional measures targeted at easing financial conditions to avoid a demand collapse and to prevent financial markets from freezing up due to illiquidity.
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