Participants from RBI:
Dr. Raghuram G. Rajan – Governor
Shri H.R.Khan – Deputy Governor
Dr. Urjit R. Patel – Deputy Governor
Dr. Michael D. Patra – Executive Director

Moderator: Ms. Alpana Killawala – Principal Chief General Manager

Good morning. This is probably the most widely anticipated statement. Reserve Bank held rates today. Going forward we will follow developments on commodity prices, especially food and oil, even while tracking inflationary expectations and external developments. Of course the implementation of the Pay Commission proposals and its effects on wages and rents will also be a factor as we consider policy for the future. However, we believe its effect on aggregate demand will be offset by appropriate budgetary tightening as the Government stays on its fiscal consolidation path.

Now, we are focusing on transmission; thus far we have seen barely half the interest rate cuts since January pass through. We are working with the banks so that new methodology to determine the base rate, it will be based on marginal cost, and it should be put out sometime this week. The Government is considering the small savings rates and time them more to market interest rates and I think both these actions will help transmission. Also, banks are currently engaged in a process of cleaning up their balance sheets and as they clean them up they will have more room for fresh lending. We will use the space for further accommodation when available while keeping the economy anchored to the projected disinflation path that should take inflation down to 5% by March 2017.

So that is broadly the gist of the policy statement and I would be happy to take questions.

First, we are still accommodative; I think that is very clear. We are always vigilant, so this is not anything new, we are vigilant. There are obviously both upside and downside risks to Consumer Price Inflation, we have highlighted some of the sources of risks going forward. One could imagine that there could be downside risks from say commodity prices, especially oil. But of course given where oil is produced there are also potentially upside risks if there are political events that constrain the supply of oil. So vigilance is always needed.

Now as far as you ask questions about when the next rate movement etc., what we have said is when times are warranted we are always prepared to move off-cycle. But when times normalise we prefer staying with the policy cycle rather than move off-cycle. Of course, when we use the words external developments, one of them is what happens to the Fed policy rate hike; that is probably even more widely anticipated than our statement today. Now of course there are some residual uncertainties about what the Fed will do. But my sense is, as I have said before, after an initial bout of volatility we probably should see Indian markets stabilise and come through. So it is not as I have said before again the central factor in our deliberations going forward.

The first question was on the marginal cost pricing. Yes, as we move towards marginal cost and eventually market benchmark, both of which will be enabled, they will have to pay more attention to asset liability management, clearly they have the capabilities. The question you asked is, are there the instruments? But demand creates its supply, when there is no demand there is obviously no supply. Obviously as they start looking for these kinds of instruments, others will start creating them. So I have no doubt that the markets will become more vibrant as a result of what the banks will need to do to manage their liabilities’ mismatches.

As far as second question goes, you asked savings rates at 4%. I do not want to conjecture why they have been stuck at that rate for so long. Of course as you know perfect competition will also get you the constant rate across the system. I am not saying there is perfect competition but we have to, I mean it is something that perhaps in the future we could also look at. But I do not think we should presume, which you seem to be hinting at, that there is some misbehaviour right off the back, but it is something that we can look at.

As far as ARCs go, we are very open to entities who want to set up as ARCs, there is a process of licensing, and they have to apply. But if entities want to put more capital to existing ARCs, get licenses to become new ARCs, we are very open to it especially if there are foreign entities that want to bring in more capital into this business its most welcome.

First as far as services inflation goes, services inflation is obviously a source of concern. I think it largely reflects the supply constraints in our economy that high quality education, high quality healthcare or reasonable quality healthcare and reasonable quality are education are relatively in short supply, which is why you see higher inflation. And that is one reason why we keep saying this is not just about food, it is about other elements. Now that has been coming down over the last year or so but obviously it gets impacted by things like taxes. Now as far as taxes go that is not wage or price push inflation and we will have to figure out a way as and when GST comes in for example and there is a big change, how we account for that going forward. So it is something that we will have to adjust for.

The second question was currency, dollar and ECB moving in opposite direction, it does create problems for countries like us because partly people are not aware of the concept of real effective or nominal effective exchange rate; the one exchange rate that always matters is the dollar- rupee. So at the same time as they are saying dollar-rupee weakest in the history of the rupee, it turns out that we are pretty strong because we have appreciated versus the Euro, versus the Yen, versus may Asian currencies. So it does make a dialogue a little more difficult. The other aspect is of course there are these volatile flows because you may see outflows from the Euro area but flows back into the dollar area. Now we will have to manage it; unfortunately this is how the global monetary system is and we have to live with the way it is. My hope is down the line the Euro area also strengthens enough that the Euro area contemplates a monetary normalization.

Third question was ARCs and the price at which assets are sold to ARCs. Well the truth is, this is a problem around the world. Banks are reluctant to sell at the prices that come, companies that deal with distress are willing to buy. And so there is always a wedge between them, at some point they both come to an agreement and assets sold, typically these assets are sold at prices that are lower than what the banks would like to have. Now we are in dialogue with the banks on a number of issues including the assets on their balance sheet and we are talking to them about what is being done on the 5/25 etc., etc.  We have given a number of facilities to the banks to improve their asset quality, we are very concerned and we insist that they be used in the right way and hopefully going forward these additional parts as well as the additional recognition that banks will now be doing will clean up the balance sheets in a significant way so that banks will be in a position to grow and lend going forward, that is something that we are fully engaged in right now and we hope that the outcomes will be visible in the next year or so.

Yes, but that does not mean I should take credit when the growth takes place. Look, we are all working together to ensure that growth takes place, I think it is in our collective interest and I kept emphasizing and I will emphasize again, the RBI is not against growth, we need sustainable growth, we will ensure there is sustainable growth and will ensure the maximum sustainable growth we can get. Now sustainable means within the bounce of whatever inflation we are willing to accept and that is what the Government says for us, this is what inflation we are willing to accept and what our job is to create the maximum growth consistent with that.

Chinese devalued initially but then stopped and in fact it came up a little since then, and perhaps with the Chinese inclusion in the SDR basket you may see a little more of that. But we do not see the exchange rate as something that we can manipulate in a significant way to attain whatever macro objectives we have. We have said repeatedly that our intent is to minimize volatility in the exchange rate rather than target a particular level. Now the market as it moves the exchange rate determines what is reasonable given the various market forces that are underway. As I said, if you look at our exchange rate, over the course of this year, the nominal effective exchange rate is approximately flat.

A number of actions have taken place including splitting the Chairman and the CEO of the banks, appointing some private sector players as CEOs. There is a process of appointing new board members, typically more professional. The bank board bureau is being set up. So a number of actions have taken place. My sense is these have all been quite positive and of course these things play out over time but let us see how it moves.

It is absolutely crucial because I think if you take the broader process that we are trying to do together with the government. First take the governance process of the banks, move towards cleaning up the banks’ balance sheets and appropriate recapitalisation and then they will be in a position to do the kind of lending that the economy will need as the recovery picks up steam. So that is the process that is being followed and I think it is well under way.