Read Between the Lines

Budget 2020 did disappoint investors, but slowly and steadily consolation set in as there were no negatives if not any significant positives. However, the monetary policy declared by RBI on 6^th February has changed the scene for better. The policy contains multiple pointers which are positive for banks, real estate, auto and MSME. These being the largest employment generators, the overall consumption scenario can improve as well.

Well, the 135 bps rate reduction over last one year hasn’t been too much of a help. So, why do I say it’s positive inspite there was no rate reduction. There are two points which are special importance here, but before that lets quickly understand banking system in India.

When we give deposits to the bank, they cannot lend that whole amount. A part of it stays with the RBI in the form of Cash Reserve Ratio (CRR) and another part stays Statutory Liquidity Ratio (SLR). Net – net, under CRR and SLR a certain percentage of the total bank deposits has to be kept in the current account with RBI which means banks do not have access to that much amount for any economic activity or commercial activity. The CRR and SLR rates are 4% and 18.25% each. While banks do not make any money on CRR, they make some money on their SLR investments. Thus, as a back of the envelope calculation, if you deposit Inr. 100/- in the bank, they cannot lend Inr 21/-. So, from the remaining amount they need to recover their cost of deposits + operating cost + profits. In current scenario where NPAs are high, the write offs is an additional cost.

To, give relief to banks, RBI has removed the amount lent to Auto, Real Estate and MSME from the purview of CRR requirements. So, banks will have that much lesser amount locked in investments which don’t reap any returns. This eases the liquidity pressure and reduces cost of funding, thus enhancing the transmission of reduced rates to the end borrowers. Let’s not miss the point, that banks will try to give loans to these sectors at lower rates, thus helping these sectors grow. This window is from Jan – July 2020, but one can speculate that it may get extended.

Further, for MSME which are in trouble the one-time restructuring has been extended. To pull real estate sector out of trouble, 1-year extension is allowed from date of commencement of commercial operations of project loans to real estate, should all help alleviate funding woes of these crucial segments of the economy.

The other action was LTRO, Long Term Repo Operation. So, what are these repo? Repo is the rate at which banks can borrow from RBI using government securities. The repo rate is the rate which the RBI changes as a part of its monetary policy. Generally, these lending are for 2 weeks. However, under the LTRO banks can borrow for 1 to 3year window up to Rs 1 trillion at repo rate, which is 5.15%. This is nothing short of a rate cut. So, they can borrow money at 5.15% and lend it or alternately can invest in government securities which yield 6.4%.

So, while the headline statement looks like an accommodate policy with no rate cuts, deep down it has many nuances which can help the economy. Clearly no exaggeration when media called it a mini budget and RBI called it proper collaboration between fiscal and monetary authorities.

Happy Trading!!!

Cheers.