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Rates Unchanged, No Extension of Moratorium

Aug 7, 2020

The Reserve Bank of India (RBI) in its monetary policy committee (MPC) meeting today, as expected, kept rates unchanged while maintaining an accommodative stance. The MPC highlighted that space for monetary easing exists, as inflation could decline in H2 FY21, but wants to use it judiciously and wants to remain watchful of incoming data. The RBI also announced a one-time restructuring scheme for Covid19 related stress, provided additional liquidity support and increased LTV for gold loans by banks. As largely expected, RBI did not extend moratorium on term and working capital loans.

MPC’s Assessment of global and local economy

• In MPC’s assessment global economic activity has remained fragile. The near-term outlook points to a slow, uneven, and hesitant recovery in the second half of this fiscal year.
• On domestic front, economic activity had recovered to some extent in April and May, but surge of fresh cases has impacted domestic high frequency indicators.
• However, Agriculture sector has emerged as a bright spot. Good monsoon has helped kharif crop cultivation and increase in reservoir levels could bode well for rabi crops as well. These developments have supported rural demand.

Inflation Outlook

Like the last monetary policy, the MPC did not give specific forecast levels for inflation. However, it highlighted that headline inflation may remain elevated in Q2 FY21 but may moderate in H2 FY21 aided by large favourable base effects. While supply side disruptions continue, good rabi harvest, moderate rise in minimum support prices (MSP) for kharib crop is likely to support a decline in food inflation. However, outlook on non-food inflation is more uncertain.

Growth Outlook

MPC’s outlook for growth remains unchanged from last monetary policy. It expects real GDP growth to be negative in FY21. If Covid19 pandemic is contained early, then there could be some upside to the outlook. A more protracted spread of the pandemic, global financial market volatility and lower than expected monsoon rains are key risks to growth according to the MPC.

Major Announcements

Resolution framework for Covid19-related stress – RBI has allowed a one-time restructuring scheme for corporate and personal loans while allowing them to be classified as standard assets.
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Increase in LTV of gold loans – Loan to value (LTV) on gold loans offered by banks have been raised to 90% from 75%.
More liquidity measures – An additional special liquidity facility of INR 5,000 crore at policy rate will be provided to National Housing Bank (NHB) and INR 5,000 crore to NABARD.
• No extension of moratorium.
• RBI to review priority sector lending guidelines to align with emerging national priorities and bring sharper focus on inclusive development.

Outlook

The pause in rate cut was largely on expected lines. RBI has already cut rates by 115bps this year and has provided significant amount of liquidity. Bond yields have reacted to this and short-term AAA corporate yields are below 5%, long-term AAA corporate yields are sub 6%. We could see some bit of rise in yields in the near-term however, low yields are here to stay in our view. As highlighted in our investment commentary – “More of the Same” over the next 2-3 years returns from debt funds may be around mid-single digits. Hence, we recommend investors to incrementally invest in Ultra-short term funds and bide time for better investment opportunities. We continue to scout for fixed income oriented alternate opportunities like ReITs and InvITs.

The one-time restructuring scheme is pragmatic in our view, loans can now be rescheduled as per cash flows. This should help ease pain of stressed sectors like aviation, hotels, travel, and construction. While banks will have to make some provision (about 10%) for this upfront, it will help provide some breathing space for banks on asset quality issue which could have worsen post Covid pandemic. No extension of moratorium is also positive for financial firms. While extension of moratorium was unlikely, an extension might have caused fears of sector instability. However, as we had highlighted earlier real extent of pain in financial sector would be known only once collection of the loans under moratorium begins.

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