RBI may not cut repo rate in upcoming MPC meet; need to keep real interest rate negative: SBI Research

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July 31, 2020 4:51 PM

With the 115 basis points reduction in repo beginning February, banks have already transmitted 72 basis points to the customers on fresh loans, which is the fastest policy rate transmission in India.

RBI, reserve bank of india, MPC, interest rate, real interest rate, policy rate, repo rateSmall changes in deposit rates hardly make any difference and hence it is always costly to keep real interest rates at high levels for a significant period.

Even as the household demand and overall consumption in the economy take a major blow amid the coronavirus crisis, the Reserve bank of India in its upcoming MPC may not cut the repo rate. With the 115 basis points reduction in repo beginning February, banks have already transmitted 72 basis points to the customers on fresh loans, which is the fastest policy rate transmission in India, said the latest SBI Ecowrap report. MPC could now explore further unconventional policy measures to ensure financial stability in the current circumstances, the report added. Large banks have transmitted as much as 85 basis points, which has happened because of a proactive RBI using liquidity and other measures as a tool to serve its policy objective.

The SBI report also suggested that small changes in deposit rates hardly make any difference and hence it is always costly to keep real interest rates at high levels for a significant period. It is essential to keep real interest rates at negative right now, as it will also have a sobering impact on asset quality, it added. 

Also Read: FM Sitharaman says banks can’t refuse loans to MSMEs under emergency credit facility; warns action if reported

In the recommendations to lift financial markets, it was also highlighted that the negative real rates will be appropriate for financial markets as it is unlikely to hurt household financial savings given the uncertainty surrounding pandemic. A real interest rate is an interest rate that has been adjusted to remove the effects of inflation to reflect the real cost of funds to the borrower and the real yield to the lender or an investor.

While people are saving money as a precautionary motive, the incremental small savings deposits have significantly slowed down as people keep more money in liquid bank deposits rather than locking them in financial savings. Meanwhile, the recent jump in household savings might not be sustained as the growth disruptions will continue for at least in H1 of the current fiscal, implying that both Q1 and Q2 growth numbers will be washouts. 

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