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Wednesday, 13 June 2012 00:42
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A big rate cut will partly offset policy paralysis impact

A near-stall-speed 0.1% IIP growth for April, coming the day after S&P reiterated its downgrade-to-junk warning, and all eyes are once again on RBI. Indeed, despite the disappointing 5.8% GDP growth in Q4, if the Sensex greeted the IIP numbers with a 195 point rally, it was because market players expect the worsening economic scenario to force RBI into making even larger rate cuts. Though a large rate cut looks unlikely in view of the inflation threat—in April, RBI had cited upside risks to inflation while cutting rates by 50 bps—a rate cut is near certain, with the odds highest on it being 50 bps. And, since the finance ministry will ensure all rate cuts are passed on by banks, this will improve India Inc’s books, making it more attractive for investors—in other words, a virtuous cycle of change will get triggered by a rate cut. Between July 2010 and now (see today’s page 1 lead story, IIP crawls, all eyes on RBI), SBI raising its base rate by 250 bps has meant, based on the outstanding credit to India Inc, a higher interest outgo of R1 lakh crore—add that back to earnings, and it’s clear this will do wonders to both India Inc and the economy.

This, however, is just one side of the story. If things were so simple, how does one explain that, since RBI cut policy rates by 50 bps at the beginning of the financial year, the loan books of banks have declined by R71,000 crore as compared to the same period last year? Policy paralysis, to use the popular shorthand to describe the government’s unfriendly policies, has to be the major reason for this. This includes the government not being able to get critical legislation on land acquisition passed, for instance, to the impasse over FDI limits in retail and insurance. More important, perhaps, is the definite anti-industry stance of the government, and we’re not just talking of the government hounding Vodafone by changing the tax law after the telco won the Supreme Court case or the near-two-year delay in giving Qualcomm a licence it won in a government bid. As FE reported last month, the amount of money locked up in income tax litigation has doubled from R243,603 crore in December 2010 to R436,741 crore in December 2011—this, by the way, is based on data provided by the finance ministry to Parliament. Not surprising then, that in just the last six quarters, CMIE data shows, the number of stalled and abandoned projects has doubled.

Clearly the government needs to do its part, and that’s what finance minister Pranab Mukherjee promised yesterday when confronted with the IIP data, though what the government can do is unclear given that it has failed to make even a marginal dent on diesel prices and lost what most would have thought should have been a non-battle with Mamata Banerjee on the pension bill. But while making its decision on the rate cut, RBI would do well to keep in mind that much of the inflation problem is related to food articles and that is largely related to supply-side issues, not excess demand.



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