Reserve Bank of India’s Annual Report 2009-10: An overview - Atasi Das

India’s apex banking authority, the Reserve Bank of India (RBI) recently released its statutory Annual Report for 2009-10. The report provides an analytical assessment of the major macro-economic issues faced by the country in 2009-10 and lists the policy measures undertaken to attain the set ‘macro-financial objectives’.

Macroeconomic performance review
The global financial crisis led to the deceleration of the Gross Domestic Product (GDP) growth rate in India since mid 2008-09. Aided by low headline inflation, RBI introduced an expansionary monetary policy package for growth resurrection (which continued till the first half of 2009-10). GDP growth listed a robust recovery (above the global economic growth rate) in the second half of 2009-10. A general hardening of inflation rates, coupled with persistent food inflation (triggered by a deficient monsoon) ultimately prompted the central bank to withdraw its expansionary monetary policies in a calibrated manner, so as to anchor in inflationary expectations without constricting the economic recovery process. Headline inflation has hovered around double digit figures for the initial four months of 2010-11. In its short run outlook for the economy RBI has projected inflation as one of the key concerns for the country.

Agriculture in 2009-10, with a deficient monsoon has performed better than previous drought years, but concerns remain about its ability to withstand further years of drought. The average growth rate of food-grains has been 1.6 per cent during 1990-2010, less than the average growth rate of population, which was 1.9 per cent for the concerned period. Post November 2009, inflation has remained high but become more generalised in nature. Large divergence of inflation figures measured by the wholesale price index and the consumer price index has been observed in India in 2009-10; rate of inflation has also varied significantly across states. The RBI has called for increased monitoring of ‘futures market activities’ in view of its likely impact on the overall inflation level.

The financial markets have performed well in 2009-10, reflecting India’s sound regulatory framework and RBI initiated stabilisation policies. Accommodative liquidity management by the RBI has contained the upward pressure on yields of government securities (precipitated by large scale government borrowings) in 2009-10; housing prices have rebounded and greater exchange rate flexibility have been observed in 2009-10.

Preliminary estimates have put ‘financial savings (net) of the household sector’ at 11.9 per cent of GDP (at current market prices) for 2009-10; the comparable figure for 2008-09 is 10.2 per cent. India’s current account deficit has been 2.9 per cent of GDP in 2009-10, compared to 2.4 per cent of GDP in 2008-09.

Capital flows have been moderate in the beginning of 2010-11, as investors globally displayed low risk appetite in the backdrop of the Eurozone debt crisis. RBI has contained the destabilising effects of capital inflow volatility through exchange rate flexibility, usage of foreign exchange reserves and a measured approach towards capital account liberalisation.

A high initial capital requirement for a long run time frame has preempted investment in India’s infrastructure sector and has adversely affected the productivity of its investments. In the last decade, share of bank credit towards the infrastructure sector in gross credit has risen from 2 per cent to over 12 per cent; RBI has called for increased participation of the non-banking financing sector in this regard.

RBI has put India’s output growth for the current fiscal at 8.5 per cent. India had registered a 9 per cent growth rate during 2003-04 to 2007-08, which fell to 7 per cent during 2008-10. The report has isolated a host of factors responsible for the decline in the potential output, like decline in investment growth, investment relocation from private to public sector activities and from tradable to non-tradable economic sectors. ‘Total factor productivity’ has fallen from 2.6 per cent in 1992-1997 to 1.7 per cent in 1997-2005. Agricultural productivity has slid from 3 per cent to -0 .2 per cent, the comparable figures for industry are 3.1 per cent to 1.4 per cent respectively. Productivity for the services sector has risen to 2.2 per cent from 2 per cent in the concerned period.

RBI has ruled out any potential output shock for the economy at the moment. Capital inflows for India are expected to accelerate in near future, in view of her strong growth projections and a delayed monetary exit by developed nations.

Reserve Bank balance sheet 2009-10 (July-June)
RBI’s gross income fell from Rs 60,732 crore in 2008-09 to Rs 32,884 crore in 2009-10. The growth in liability has been caused by a high growth of currency in circulation, increased deposits by the Central Government and the commercial banks (with the apex bank) and a general deposit growth within the banking system. The Central Government’s outstanding balances under the Market Stabilisation Scheme (MSS) have however registered a decline.

The RBI’s domestic assets portfolio rose on the back of the government securities kept with it by the banks. There was however a decline in its income from foreign assets, which earned near-zero interest rates in the developed economies. In the end of June 2010, RBI’s foreign currency assets stood at $249.6 billion of which $117.1 billion was parked with various foreign central banks, International Monetary Fund and the Bank of International Settlements. The rate of earnings on foreign currency reserves and gold was 2.09 per cent in 2009-10 compared to 4.16 per cent in 2008-09. A sustained period of liquidity absorption through the reverse repo scheme has also led to a high fund outflow (towards interest payments to the banks) for the central bank.

Key observations

• RBI deputy governor Subir Gokarn has observed that the fiscal imbalances may create problems for implementation of “monetary policy and macroeconomic management”; persistently high fiscal deficit brings with it economic risks like high inflation, low savings, crowding-out of private investment, decline in potential output and external imbalances.
  

• The lion’s share of the 3G/broadband wireless auction revenues will be eaten up by a Rs54,589 crore cash outflow (under the head of government grants) and will do little towards rectifying our fiscal imbalance.
  

• Inflation has ceased to be solely a monetary problem in India, with increased play of the supply side bottlenecks; structural supply constraints need to be addressed especially for augmenting the supply of items of mass consumption.

• Autonomy and institutional independence of RBI should not be compromised at any instant (read with special reference to the enactment of the Securities and Insurance Laws (amendment and validation) Bill).

• Regulations relating to financial stability need to cover issues like systemic risk assessment, risk profile of complex innovative financial products and usage of models for risk pricing and management.

• Major areas of policy concern for near future include the development of the derivative markets and the long-term corporate bond markets with greater foreign participation towards promotion of increased competitiveness.