The Reserve Bank of India (RBI) has taken the right view that there is no need for any change in its monetary policy.

The factors that led to its hardening stance have hardly changed in the recent months. Liberalisation, in the past, of monetary measures has had only a limited effect on the real variables that determine the course of the economy.

Bread-and-butter issues are the daily concerns of the common man. The debate on growth versus inflation is, in a sense, phoney because the former is no palliative for the latter in a situation where incomes and wealth are highly skewed in favour of the upper middle classes and the rich.

But in our system it is these classes that are vociferous in demanding more and more from the government and the RBI. The benefits of growth do not easily percolate to the poor, unless the process is labour-intensive and productivity rises.

A decline in interest rates benefits the corporate sector. Because the interest element constitutes a small proportion of the total cost of production, its reduction is not material for the latter. But it influences the return on equity.

We have a spectrum of interest rates, all of which need not necessarily move in the same direction.

In the Indian context we have seen monetary policy affecting the bond market more than the one for loans (“A Refreshing Contrarian”, Business Line , June 17).

Then we have the unorganised money market, which has its own demand and supply schedules, different from the rest of the system.

FARM SECTOR RATES

But one important point, which I observed during my field studies of rural credit, was that wherever the banks had made a big entry they helped in reducing the rates in the informal sector of moneylenders, traders and others ( Field Study of Banking Facilities in Technical Studies prepared for the Banking Commission , Reserve Bank of India, 1972).

There is no doubt that the great strides made by the banking system in the last four decades have, in general, contributed to a decline in interest rates in the rural areas.

Although the rates in the informal markets may still be usurious, they are not at levels observed a half century ago.

The solution sought by government is inclusiveness. But my feeling is that those in agriculture who are creditworthy are already in the fold of banks with a good discount in interest rates. Those left out are small and marginal farmers and small industries.

A disturbing finding of the official census data was that the absolute number of cultivators had declined for the first time in 40 years by nearly 9 million. Women farmers accounted for two-thirds of the decline.

Agricultural labourers now form over half of all those working in the sector; in 1961, they formed just under a quarter. There are now over 37 million more agricultural labourers than there were in 2001.

As a result, the net number of workers in the agricultural sector is still growing, an indication that many of those who quit farming do not move to the industrial or service sector. What can monetary policy do in such cases?

The Mahatma Gandhi National Rural Employment Guarantee Scheme is well conceived to generate employment opportunities in the rural sector through road construction, land conservation, maintenance of minor irrigation works, etc.

However, if one were to go by the existing evidence, it has deteriorated into a scheme for the distribution of doles in many cases, leading to inflation in rural areas that is as high as in the urban ones.

No liquidity shortage

There were appeals from bankers for a reduction in the Cash Reserve Ratio (CRR) to enable them reduce lending rates.

The Chairman of State Bank of India has referred to an excess liquidity of Rs 50,000 crore in his institution that is close to the repo transactions at the RBI (Rs 70,000 crore) in the recent days.

There is no systemic shortage of liquidity. SBI is maintaining 3.6 per cent on the domestic net interest margin. Can it not reduce the margin that is relatively high compared with the system here and abroad?

In view of the depreciation of the rupee against the dollar and the need to attract foreign capital there is no case for any reduction in interest rate on the external side also.

There is a psychological tendency of either appreciation or depreciation reinforcing itself until a shock is administered for the turning point to emerge.

In this connection I would like to reiterate the suggestions in my earlier article to give a boost to the rupee (RBI: Hard Choices, Easy Options, Business Line , June 11, 2012).

1. The FCNR (B) Scheme should be relieved of the current restriction on interest rates;

2. Fresh accretions to all NRI deposits may be exempted from SLR requirement; and

3. Banks will be encouraged to offer forex currency loans to Indian entrepreneurs on attractive terms so that they do not resort to external commercial borrowing.

The RBI should be thanked on two counts. There is no more mention of the wrongly-defined ‘core inflation’. Second, it says: “It is only a durable receding of inflation that will open the space for monetary policy to continue to address risks to growth”.

By his uncompromising stand against inflation, following his predecessors, the RBI Governor has emerged as the poor man’s Paul Volcker in India.

(The author is a Mumbai-based economic consultant)

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