Participants from RBI:
Dr. Raghuram Rajan, Governor
Shri H R Khan, Deputy Governor
Dr. Urjit Patel , Deputy Governor
Mr. B. Mahapatra, Executive Director
Mr. G. Padmanabhan, Executive Director

Moderator:
Ms. Alpana Killawala, Principal Chief General Manager, Department of Communication

Thank you Inba. Welcome to the Reserve Bank’s Post-Policy Researchers’ Conference. I will straightaway hand it over to Dr. Rajan.

Thank you Alpana. Let me start with some initial remarks and then turn it over to questions. First good afternoon to everyone who is on the call. In the mid-quarter review today we began a change in the exceptional liquidity measures we introduced in July by cutting the marginal standing facility rate which is the effective policy rate today by 75 basis points or 0.75 percentage points. We also reduced the minimum daily CRR balance that banks have to maintain to 95% of the requirement down from 99% of the requirement. We think this will allow them some freedom to manage their liquidity. We also believe that this easing was warranted given that the external environment has improved and given that the government and the RBI have used the time since the measures were put in place to narrow the current account deficit and to ease its financing. This calibrated withdrawal will provide a boost to growth, reduce the financing distortions that are emerging in the market and reduce the strain on corporate and bank balance sheets. We will remain vigilant about external market conditions and will do what is necessary if they deteriorate once again. We have also announced an intention to return to normal monetary policy operations where the repo rate will return to being the effective policy rate and liquidity conditions need not be as tight as they currently are.

The difference between the MSF and the repo rate will be brought down to 100 basis points. At the same time, recognizing that inflationary pressures are mounting and determined to establish a nominal anchor which will allow us to preserve the internal value of the rupee, we have raised the repo rate by 25 basis points. The intent here is that when the repo rate becomes the effective policy rate, that is, when the liquidity measures, the exceptional liquidity measures are totally unwound, that repo rate should be consistent with the inflationary conditions in the economy. On net, these measures will reduce the cost of bank financing substantially today while allowing us to take an appropriately precautionary stance on inflation.

Let me also say that we do not have in mind what the next move on the repo rate should be. It will be tailored to economic conditions. The intent of today’s move was to ward off escalating expectations of inflation but the pace of the disinflationary process has to be calibrated to the state of the economy and we will do so. Let us remember that the postponement of tapering is only that, postponement. We intend to use the time that we have been given to create a more bullet proof national balance sheet and to further the growth agenda which will create confidence in both our citizens and investors alike. I also announced a number of advances on the other measures that we announced in early September - on September 4th. Let me just mention one here which is that we have fully liberalized bank branching yesterday. Also an update on what we have received thus far on the FCNR (B) swap facility; we have received $466 million in the two or three days it has been operational and we have received about $917 million under swap to facility to banks in approximately the week that it has been operational. So a total of $1.4 billion in the few days that these two facilities have been operational. Let me stop there and say that we do intend to continue on the path of structural reform. We are examining a number of measures and will roll them out as and when appropriate.

Sure ma'am. Thank you very much. Ladies and gentlemen we will now begin the question and answer session. We will take our first question from Shubhada Rao of Yes Bank.

Good afternoon Governor. Congratulations for a very unambiguous and clear policy statement. Without much ado, I would have one question. You have in the policy stance and rationale, etched out that MSF will continue to be the operative rate till such time that the CAD and the funding of CAD is in the comfort zone for RBI. In this regard I just had the question that when we talk of transition from MSF to repo as the operative rate, will we be looking at a certain level of CAD or the path of CAD which should begin giving rise to certain expectations on the timing of the move from MSF to repo rate as the operative.

Thank you. We will take our next question from Prasanna Ananthasubramanian of ICICI Securities.

Good afternoon Governor. My question is this. In the past RBI has targeted both the overnight rate and the extent of banking system deficit as proxied by the LAF borrowing. Once we return to normal functioning of LAF with bank borrowing at the repo rate, would RBI attempt to modulate the extent of banking system deficit? And secondly would the operating procedure remain the same, i.e., buying long bonds to infuse liquidity into the system? There is a view that such purchases have kept long bond yields below market clearing levels and have also given license to government to run larger deficits, so I would like to have your views on that.

Well, just on a nitpicking point, if we bought the long bonds that the market cleared at that level so there is a market clearing level, so I don’t know what we mean by not a market clearing. May be you are saying without our entering it would be different and that’s a fair point. On the issue of, I don’t think the LAF has been something that the RBI has encouraged borrowing from, but going forward clearly we do need to return to normal liquidity conditions which will involve some borrowing from the Liquidity Adjustment Facility but I think that as a medium-term thought, for the RBI to be the residual funder of the system seems unwarranted. It should be the private markets that should be the residual funder of the financial system and so we have to find a way and one of the items that Dr. Urjit Patel committee is going to examine is how the operational functioning of our monetary policy framework should be altered and I presume liquidity management and this kind of funding is something that they will look at but it is not something that we are focused on in the next few weeks or months.

So, just as a follow up I mean the whole philosophy of using OMO purchase of long bonds to infuse liquidity what would your views be on that?

Well, I mean money market. I don’t know whether it should be long bonds or short bonds. Money market operations, open market operations are engaged in by Central Banks across the world. I wouldn’t say that is something that we should put off the table. We could debate what maturity of bonds we should use and whether we should have a significant effect in the long end and whether we should, those are all issues that are completely open for debate and I am hopeful that again Dr. Urjit Patel committee will opine on some of that.

Thank you sir.

Thank you. We will take our next question from Sonal Verma of Nomura.

Hi Dr. Rajan. Can you give us some sense on the nominal anchor of inflation on the basis of which the repo rate was hiked today? Because you know the last core WPI reading was actually under 2% and if the focus is sort of moving towards CPI or inflation expectations then 7.5 on the repo is actually also too low. So some clarity on that would be greatly helpful to us.

Let me ask Dr. Urjit Patel to take this.

Sonal, also you must remember that at some level the output gap is significantly negative now. Of course, your views on potential output do affect what your sense of output gap is. And we know how badly measured potential output is. Nevertheless, given a strong negative output gap that does affect the level of interest rate that you think is consistent with disinflationary impulses more broadly and also I think we should remember that there are other disinflationary impulses. Of course, some inflationary impulses on the way, one of those is the harvest and the associated food prices which is going to have some disinflationary effect. On the negative side for inflation or rather increasing inflation is the pass through of fuel prices, of suppressed inflation and of the exchange rate depreciation. Given all this, our first attempt was to basically signal that we are conscious of inflation. Given where inflation is right now and given the potential sort of disinflationary impulses on the way, we feel comfortable at this point with where we are on the repo rate. Over time as we see this play out, as I said economic conditions will determine any change and at this point we think it could be either way.

Just one more thing, what would be the RBI’s view around intervening to build FX reserves? I mean so far RBI has followed broadly a hands off policy but will this strategy sort of change in order to like you said bullet proof our balance sheet?

Thanks a lot.

Thank you. Our next question is from Shyam Poddar of Forex Capital Services.

Good afternoon Dr. Rajan. My name is Shyam Poddar and instead of going for the interest rate and all those things I will come straightforward because I am a practitioner for last 50 years as a FOREX consultant. My question is what we are talking you have rightly done to bring the FCNR (B) on the swap route. Why don’t you do the same thing for the exporter to borrow from the ECB directly for their working capital requirement as a swap route so they can repay by way of their export earnings, as it was suggested by Mr. Padmanabhan in their committee report of 6th May 2013. That the exporters may go directly to borrow from the offshore banks. It is yet to be implemented. My second question is that nobody has touched upon so far above the NDF market which is influencing directly the Indian market and Indian rupee and which caused undue volatility in the Indian market. Presently as per the estimation there is approximately $50 billion per day trade is being conducted globally for their USD INR. So I would like to have your reactions sir.

Sir, may I follow up for this NDF issue only. When we are going for that, we have opened up for the NSE or MCX for currency future and even in Brazil and Indonesia to protect their domestic currency they have started parallelly their NDF market and on cash settlement basis. Why not we start here the OTC in the banks they can hedge because the root cause is that when there is no level playing field for the foreign investors. The peculiar point here is that rupee invoicing is being allowed and encouraged by the government. Now, the counterpart, if they don’t find any level playing field to hedge their risks what is the sense of the rupee invoicing and that is why the rupee invoicing has not been taken up so far.

I think your point is well taken. I think what you are saying is exactly what I also was trying to say which is we need to improve the competitiveness of the Indian market. We will examine restrictions that players have in entering and participating in it but that is something which we have to do once we have stability. I think at this point I don’t want to make big changes in the market until we get some stability in the exchange markets. We are getting there but the issues you point to are issues we will take up. Let me turn to Mr. Padmanabhan.

I think we should move ahead please, If you have further questions Mr. Padmanabhan will be happy to entertain them offline.

Sure sir, we will take our next question from Srinivas Vardharajan of Mount Nathan Capital Management.

Hi Governor. You know one looks at the quarterly inflation expectations of data that come out from the RBI. The last one was in June which came out which basically indicated that the three-month forward inflation expectations was about 11.5% and the one year forward inflation expectation was close to about 12.25% and if you just go back up from 2008 both these measures have been pretty sticky average, averaging 11.5% and over 12%. So, my question really is, does it make sense to actually move away from a multiple indicator approach towards an inflation targeting approach, where CPI becomes the nominal anchor. And from there basically use some kind of a Taylor rule framework adapted for India kind of guide policy setting, that’s my first question. My second question is, over the last four years, if you look at RBI’s balance sheet, the net foreign exchange assets to net domestic assets, that ratio has kind of dropped pretty significantly. Now, if the market gave you an opportunity to correct that ratio would you kind of use that in terms of increase in the numerator there and it would also be helpful in terms of sowing the seeds of creating primary liquidity in the market, M0 in the market, because what we observed in the last four years in the absence of FX intervention whenever there were capital outflows the domestic market had a huge reserve money shock and this could kind of insulate domestic money markets from that reserve money shock. What are your thoughts?

Thanks a lot. Governor just one thing is it possible for outside analyst like myself to kind of give some inputs and thoughts that one has to Urjit Patel Committee Report.

Absolutely. I think Urjit Patel email is on the website, my email is on the website. Feel free to give us advice. We do get a lot of advice and we try and take all of it on board.

Thank you. We will take our next question from Sameeran Chakravborty of Standard Chartered Bank.

I have two very small questions. One is that after this policy do you think monetary conditions have tightened or easened? And the second is that do you think that the interest rate difference of currency which RBI tried in July what is your assessment after two-and-a-half months. Has it worked and will you do it again, thank you.

Thank you. Our next question is from Tushar Poddar of Goldman Sachs.

Thank you Governor. I have two quick questions. The first one is, how will the timing of the Fed tapering affect the move from the marginal standing facility to the Repo if at all? And the second one is if I can just sort of ask you again on the nominal anchor question. Is the short term nominal anchor changing from stable currency to stable inflation or not, or the nominal anchor for the short-term is still stable FX?

What was your first question?

The question was the shift from MSF to Repo, is it being dictated by the sentiments?

Thank you. We will take our next question from Rajeev Malik of CLSA.

Governor and your team thank you very much, we do appreciate this time, effort and patience that you and your team show. I have two quick questions. One is on the currency Rupee. Obviously we have seen a stunning rebound. Despite the extraordinary measures that have been taken to engineer part of that rebound does it surprise you or concern you that it’s not necessarily an outlier compared to some of the riskier EM currencies? And secondly, would it be possible to share some thoughts or estimates as to what is the subsidy that RBI is offering for the swap facilities going to cost it? Thank you sir.

Actually building on just that. That even though it’s considered to have played the role in altering expectations, Rupee’s rebound since end of August, actually it’s not an outlier compared to some of the riskier EM currencies. Is that interesting change a concern?

So the second point you are making is that there are these external factors which have also seen to come together at the same time and yes quite possibly but to some extent at one point we were the worst according to some measures and everybody harped on that and that kind of negative view was feeding on itself and now we are little more in, I wouldn’t say the middle, but we are certainly not at the lower end of the pack; but more generally I think it’s important for us to move away from these stop gap measures to longer term measures to focus on improving the health of the economy that includes structural reforms. It includes fiscal policy, it includes monetary policy and that’s part of the reason why I think today we took the first step towards ordinary monetary policy away from special measures with the idea of strengthening the value of the rupee not through special measures but through long-term faith in its value.

Thank you. Our next question is from Vibha Batra of ICRA.

Good afternoon Governor. I have two questions on timeline. One is this guidelines for NBFC which were based on Usha Thorat Committee Report. When are they likely? And second is on countercyclical buffers and also for additional capital cushion for Systematically Important Financial Institutions. When do we expect the guidelines from RBI?

Let me ask our Executive Director, Mr. Mahapatra, to answer at least the second question.

Now about this countercyclical capital buffer we have set up an internal working group. We are working on it and probably we will be able to put out the paper sometimes at end of this year or so. Then what was your third question?

Systematically Important Financial Institutions. There is this additional capital requirement. So are you going to?

Yes, this countercyclical capital buffer will be additional capital requirement that will be spelt out in our paper maybe by the end of this year.

Okay so that will include for SIFI also, Systematically Important Financial Institutions?

As you know in India we don’t have any G-SIBs, Globally Systematically Important Banks. So the Basel Committee has already prescribed capital surcharge for the G-SIBs but in India we don’t have any G-SIBs.

That I can’t commit right now. We are working on that framework.

Okay sir and the NBFC guidelines, based on Usha Thorat Committee?

So, we will get back to you on that one because we have a subset of the management here but let’s get back to you on that one.

The draft guidelines based on the Usha Thorat Committee Report were subjected to a review in view of the continued representations received from the industry and the concerns on some financial companies unauthorizedly conducting NBFI activities without obtaining the Certificate of Registration from the Bank. The guidelines will be put out by October 15, 2013.
On the issue of additional capital requirements for systemically important NBFCs, the Bank will take a view at an appropriate time.

Thank you. Our next question is from MSV Prasad of IDFC.

Trust you guys to ask me the difficult questions. Okay the short answer is this. There is a difference between asset purchases which are intended to alter liquidity conditions in the market that’s open market operations. I don’t see as I discussed earlier, one could dispute the tenure of the instrument being used and whether it should be long- term or short- term. A number of Central Banks typically use short-term. Some cases it’s long term instruments but that is just about the amount of liquidity being infused in the market that is different from a Large Scale Asset Purchase Program, the L-SAP so to speak, which involves a substantial increase in the Central Bank’s balance sheet and it’s intended to alter the pricing of the asset market wide, not just through liquidity but through massive changes in portfolios of investors. Those I think are significantly distortionary in terms of asset prices and the problem is what goes up has to come down and we have seen that happening every time there is anticipation of this purchase program slowing and so I worry a little bit about the market volatility that is created by such Large Scale Asset Programs and of course we haven’t seen the unwinding thus far but we have already seen a premonition of the kind of volatility that happens when the unwinding starts. So for that reason I wasn’t sympathetic when they went into it and I talked about the effects on emerging markets and I think now when they come out of it we see the effects are indeed significant on the emerging markets. But that’s about large scale asset purchases rather than liquidity purchases and I think there is a difference.

Alpana signals to me that this is the last question. So thank you very much everyone for being patient in listening and of course we are happy to take suggestions from you, you can email them to anyone of us and we will give them due consideration. Again thanks very much and thanks to all my colleagues who are here and who have helped in answering the questions you have.

Thank you Inba. You can close now.

Thank you very much. Ladies and gentlemen on behalf of Reserve Bank of India that concludes this conference. Thank you for joining us and you may now disconnect your lines.

I would like to know your reaction on the external debt of the country which is seen increasing YOY and the next immediate threat that we are looking after FED tapering is the maturity of the short-term debt that is about USD 93 billion dollar along with other debt maturing with approx amount of USD 172 billion by March 2014.
The demand for dollar is expected to increase and the uncertainty over tapering would surely impact the dollar supply in coming few months. Is RBI and central government considering any plan to tackle the issue?
Next, is the FED tapering talk will again revamp in the month of December. Do you think the time of two months are enough to create a firewall to face the heat?

(Question received through email after the researchers/analysts teleconference)

It is true that external debt is rising over the years as widening current account deficit had to be financed increasingly by debt flows. During this period, short -term debt has also risen sharply. If growing debt has to be tackled effectively, we need to take steps which could reduce the size of CAD. In this regards, steps taken to moderate demand for gold and increased pass-through of international oil prices to curb demand for oil should help in cutting the import bill. It could be observed that gold and oil together account for nearly half of the total imports. On the other hand, exports are expected to do better with likely revival in the growth of advanced economies in the near term.
During the months of July as well as August, growth in exports have been in double digits and imports have declined resulting in significant contraction in trade deficit which augurs well for the size of CAD. As such we expect much lower CAD during the current financial year.
A lower CAD particularly which is financed by non-debt creating flows, would certainly help in containing the size of external debt.
As regards short-term debt it is true that on original maturity basis, short debt amounts to around US$ 93 billion. But most of it are trade credits and more importantly, nearly half of it is not contracted debt, but relates to estimated import payments that are to be made in the next 6 months. It is also true that on a residual maturity basis, short-term debt amounts to about US$ 172 billion. Again of this nearly half, being related to trade credits, can be rolled over easily. Similarly, another 28 per cent of the short-term debt represents NRI deposits which also get rolled over or are withdrawn locally. Another US $ 5-6 billion are principal repayments due under loans received by the Government under external assistance programme which can also be easily rolled over as fresh disbursement schedule is available. Thus, in short, the size of short-term debt is effectively much lower that what appears to be.