Mid-term Review of Macroeconomic and
Monetary Developments in 2002-03
2. The annual Statement on monetary and credit policy released on April 29, 2002 had projected a GDP growth of 6.0 to 6.5 per cent for the year 2002-03, based on the assumption of a normal monsoon. The latest estimate, released by the Central Statistical Organisation (CSO) for the first quarter (April-June) of 2002-03 is 6.0 per cent (as against 3.5 per cent in the corresponding period of the previous year). While the CSO estimate for the first quarter of the current year is in line with the projected rate of growth of 6.0 to 6.5 per cent, it is likely that for the year as a whole, the rate of growth in GDP will be lower in view of the poor rainfall in some parts of the country.
3. Taking into account the performance of the South-West monsoon, it is expected that production of foodgrains this year will be lower than last year by about 5.0 per cent. Production of non-foodgrains is, however, likely to show a positive growth. On balance, the present indications are that agricultural GDP for the year 2002-03 will decline by around 1.5 per cent. On the other hand, there are indications of a recovery in industrial production during the first half of the current year. The composite index of six infrastructure industries, viz., electricity, coal, steel, cement, crude petroleum and refinery products registered a growth of 6.0 per cent during April-September 2002, substantially higher than 1.5 per cent in the corresponding period of the previous year. During this period, all infrastructure industries recorded higher growth as compared to the corresponding period of the previous year. There are also indications of recovery in the production of basic goods, capital goods and consumer goods.
4. Export performance has also been impressive. According to the latest information available, exports in US dollar terms during April-August 2002 increased by 13.4 per cent as against a decline of 0.6 per cent in the corresponding period of last year.
5. On the whole, taking these developments into account, it appears that overall GDP growth for the year 2002-03 is likely to be in the range of 5.0 to 5.5 per cent as against the earlier projection of 6.0 to 6.5 per cent.
6. Scheduled commercial banks’ credit showed a sharp increase of 14.1 per cent (Rs.83,400 crore) upto October 4, 2002 largely reflecting the impact of mergers in the banking sector during the year.* Excluding the impact of mergers, scheduled commercial banks’ credit increased by 6.6 per cent (Rs.38,800 crore) upto October 4, 2002 as against 6.8 per cent (Rs.34,700 crore) in the corresponding period of the previous year. Food credit declined by Rs.800 crore in contrast to an increase of Rs.10,200 crore in the previous year on account of lower procurement and higher off-take of foodgrains. In the same period, on the other hand, there has been improvement in the growth of non-food bank credit by 7.4 per cent (Rs.39,600 crore), net of mergers, compared with 5.2 per cent (Rs.24,500 crore) in the corresponding period of the previous year reflecting better outlook for industrial growth. Apart from credit growth, various business expectation surveys point to a positive industrial outlook for the current year. However, while taking a view on the industrial outlook, the impact of deficient South-West monsoon may have to be considered in view of the linkages among the various sectors of the economy.
7. The feedback on industry-wise credit flows received from banks for April-August 2002 reveals that, at a disaggregated level, there was discernible increase in credit to coal, iron & steel, cotton & other textiles, tea, tobacco & tobacco products, paper & paper products, fertiliser, drugs & pharmaceuticals, cement, construction, gems & jewellery, petroleum, computer software, automobiles, power and residual industries. On the other hand, decline in credit was observed in mining, other metal & metal products, all engineering, electricity, sugar, vegetable oils & vanaspati, food processing, petrochemicals, rubber & rubber products, leather & leather products and telecommunications.
8. The increase in scheduled commercial banks’ investments in bonds/debentures/shares of public sector undertakings and private corporate sector, commercial paper (CP) etc., was much higher at 7.6 per cent (Rs.6,200 crore) upto September 20, 2002 as compared with an increase of 4.5 per cent (Rs.3,500 crore) in the corresponding period of the previous year. Together with such investments, the increase in total flow of resources from scheduled commercial banks to the commercial sector, net of mergers, was 7.4 per cent (Rs.45,800 crore) as against 5.1 per cent (Rs.27,900 crore) in the corresponding period of the previous year. The year-on-year growth in resource flow, net of mergers, was also higher at 15.2 per cent as against 12.7 per cent a year ago.
9. Scheduled commercial banks’ investments in instruments issued by financial institutions and mutual funds this year (upto September 20, 2002) increased by Rs.2,000 crore in contrast to a decline of Rs.300 crore in the corresponding period of last year. The total resource flow to the commercial sector including capital issues, Global Depository Receipts (GDRs) and borrowings from financial institutions was Rs.1,01,400 crore during the financial year so far (upto October 4, 2002) as compared with Rs.66,400 crore in the corresponding period of the previous year.
10. In the current financial year upto October 4, 2002, money supply (M3) rose by 10.3 per cent (Rs.1,54,500 crore) and by 7.5 per cent (Rs.1,11,900 crore), net of mergers, as compared with 8.4 per cent (Rs.1,10,100 crore) in the corresponding period of the previous year. On an annual basis, growth in M3 at 13.2 per cent, net of mergers, was in line with the projected trajectory and was lower than that of 14.8 per cent, net of India Millennium Deposits (IMDs), observed a year ago. The aggregate deposits of scheduled commercial banks increased by 12.6 per cent (Rs.1,38,800 crore) [8.7 per cent (Rs.96,200 crore), net of mergers], as compared with an increase of 9.4 per cent (Rs.90,600 crore) in the corresponding period of the previous year. On an annual basis, net of mergers, growth in aggregate deposits at 13.9 per cent was lower than that of 16.0 per cent a year ago (net of IMDs). Thus, the growth in deposits has been consistent with the projections made at the beginning of the year in the annual policy Statement.
11. An important feature of monetary development during this year has been the reduction in reserve money despite liquidity pressure emanating from increase in RBI’s foreign currency assets as also primary support to the Government’s borrowing programme. Reserve money declined by 0.7 per cent (- Rs.2,400 crore) in the current financial year upto October 18, 2002 as compared with an increase of 2.3 per cent (Rs.7,100 crore) in the corresponding period of the previous year. While currency in circulation increased by 5.9 per cent (Rs.14,700 crore) as compared with 6.3 per cent (Rs.13,700 crore) in the previous year, bankers’ deposits with RBI declined by 20.8 per cent (- Rs.17,500 crore) as compared to a decline of 7.4 per cent (- Rs.6,100 crore) reflecting the impact of reduction in Cash Reserve Ratio (CRR). On the sources side, net RBI credit to the Central Government showed a large decline of 18.5 per cent (- Rs.26,200 crore) as compared with an increase of 2.9 per cent (Rs.4,300 crore) in the corresponding period of the previous year reflecting substantial open market operations (OMO). RBI’s subscription to primary issues of Central Government dated securities of Rs.23,200 crore was neutralised by net OMO sales of Rs.27,000 crore. RBI’s net foreign exchange assets increased significantly by 17.4 per cent (Rs.46,100 crore) as compared to an increase of 9.9 per cent (Rs.19,500 crore) during the corresponding period of the previous year. RBI’s credit to banks and commercial sector showed a decline due to reduced reliance on standing facilities on account of comfortable liquidity conditions. On balance, reserve money expansion is expected to remain moderate during 2002-03.
12. Annual inflation, as measured by variations in the Wholesale Price Index (WPI) (base: 1993-94=100) on a point-to-point basis, was 2.8 per cent on October 12, 2002 as against 3.0 per cent a year ago. On an average basis, it was even lower at 2.3 per cent as against 6.3 per cent in the previous year. Annual inflation, as measured by variations in the Consumer Price Index (CPI) for industrial workers on a point-to-point basis, was 3.9 per cent in August 2002 as against 5.2 per cent a year ago.
13. The relatively lower inflation rates in the recent period have helped in creating a favourable environment for moving towards softer interest rates in the economy. An important objective of macroeconomic policy, including monetary policy, must continue to be avoidance of resurgence of inflationary pressures.
14. Inflation in the current year is more evenly spread across major sub-groups. Annual inflation on ‘fuel, power, light and lubricants’ sub-group (weight: 14.2 per cent) was lower at 4.0 per cent this year as compared with 5.6 per cent last year. The annual inflation rate, excluding the impact of price increases witnessed in this energy related sub-group, at 2.5 per cent was slightly higher than that of 2.4 per cent in the preceding year. While prices of primary articles (weight: 22.0 per cent) recorded a lower increase of 2.2 per cent as against 4.0 per cent last year, manufactured products (weight: 63.7 per cent) registered a higher increase of 2.7 per cent as against 1.8 per cent last year. Among primary articles, the increase in prices was mainly due to an increase in prices of oilseeds. In manufactured products, the increase in prices of edible oils was relatively high.
15. The deficiency in rainfall, which was more pronounced in the first two months of this year’s monsoon season, exerted pressure on the prices of many agricultural commodities. Whereas a large stock of foodgrains and comfortable foreign exchange position will help supply management, the prices of ‘fuel, power, light and lubricants’ sub-group are likely to be affected adversely by increase in international oil prices. On balance, the domestic inflation outlook still looks comfortable and the inflation rate is likely to be around 4.0 per cent, which is in line with the expectations in the annual policy Statement of 2002-03.
16. The Union Budget for 2002-03 placed the net and gross market borrowings of the Central Government at Rs.95,859 crore and Rs.1,42,867 crore, respectively. The Central Government completed net market borrowings of Rs.74,065 crore (77.3 per cent of the budgeted amount) and gross borrowings of Rs.1,10,032 crore (77.0 per cent of the budgeted amount) upto October 25, 2002. Because of the existing liquidity conditions in the market and low inflation, the Government has been able to borrow at a substantially lower cost during 2002-03. The weighted average yield on government borrowings through dated securities at 7.52 per cent this year, was significantly lower by 192 basis points than 9.44 per cent last year. As part of the debt management strategy, RBI continued to combine auction issues with acceptance by private placement of dated securities consistent with market conditions. The total private placement of dated securities with RBI during the current year (upto October 25, 2002) was Rs.23,200 crore. The monetary impact of private placement, however, was neutralised by conduct of outright OMO sales of government securities to the tune of Rs.27,000 crore (upto October 25, 2002).
17. The gross fiscal deficit of the Central Government, at Rs.55,496 crore upto August 2002, was lower by about 1.0 per cent over the corresponding period of last year and constituted about 41 per cent of the budget estimate for the current year. Similarly, revenue deficit at Rs.45,525 crore accounted for about 48 per cent of the budget estimate for the whole year. The Government’s budgeted borrowing programme may get affected by lower than anticipated real economic activity, shortfall in disinvestment proceeds and higher expenditure on account of drought relief.
18. Scheduled commercial banks’ investment in government securities at Rs.66,700 crore this year (upto October 4, 2002) has been much higher than Rs.43,400 crore in the corresponding period of the previous year. Commercial banks already hold government and other approved securities much in excess of the prescribed Statutory Liquidity Ratio (SLR), to the extent of Rs.1,66,200 crore, constituting 12.3 per cent of their net demand and time liabilities (NDTL).
19. During 2002-03 so far, financial markets in India have been generally stable, liquidity has been adequate, and the interest rate environment has also been favourable to promote investments. There are emerging signs of an upturn in industrial output as reflected in positive growth in the capital goods sector and infrastructure industries. Equity markets started on a positive note with a sharp increase in the BSE Sensex but weakened subsequently on account of cross-border tensions, monsoon uncertainties and subdued trends in the international stock markets. On an average basis, the BSE Sensex declined by 3.8 per cent to 3228 during April-September 2002 from 3355 during the corresponding period of the previous year. A steady increase in net foreign currency assets of the Reserve Bank combined with lower than anticipated level of real economic activity, created a situation of excess liquidity during most part of the current year so far. The Reserve Bank, therefore, had to actively manage liquidity not only through outright OMO sales of securities but also through its daily Liquidity Adjustment Facility (LAF). The average daily absorption through repo transactions under LAF during the year (upto October 25, 2002) amounted to about Rs.14,800 crore.
20. Reflecting easy liquidity conditions, interest rates continued to maintain their downward trend. The overnight average call money rate moved down from 6.58 per cent in April 2002 to 5.75 per cent by July 2002 and has since remained around that level. The repo rate was also reduced from 6.0 per cent to 5.75 per cent on June 27, 2002. The 91-day Treasury Bill rate, after firming upto 7.0 per cent by mid-May, dipped below the repo rate to 5.68 per cent in the auction of September 4, 2002. Similarly, the 364-day Treasury Bill rate has also declined from 6.99 per cent to 5.86 per cent over the same period. The weighted average discount rate on Commercial Paper (CP) of 61 to 90-day maturity declined sharply by as much as 293 basis points from 9.46 per cent in end-March 2002 to 6.53 per cent by mid-October 2002.
21. The government securities market also continued to show a softening trend. The yield on government securities with 1-year residual maturity declined from 6.10 per cent at end-March 2002 to 5.92 per cent by October 25, 2002. The yield on government securities with 10-year residual maturity showed a similar decline from 7.36 per cent to 7.07 per cent. The April 2002 policy Statement had mentioned the widening spread between AAA rated corporate bonds and government securities during 2001-02 reflecting ‘flight to quality’. This spread has, however, narrowed considerably over the last six months in the wake of the improved industrial outlook.
22. The public sector banks have reduced their deposit rates over one year from a range of 7.25 - 8.75 per cent in March 2002 to 6.50 - 8.25 per cent by October 2002. The typical interest rate on 1-year Certificates of Deposit (CDs) has also declined from 10.0 per cent in March 2002 to 7.0 per cent by September 2002. In consonance with lower cost of funds, some banks have reduced their prime lending rates (PLRs) by 25 - 100 basis points. The range of PLR of the public sector banks is between 10.0 and 12.5 per cent. Since banks are lending below their PLRs and have also reduced their maximum spread over PLR, the effective lending rates of banks have also shown some moderation. The sub-PLR lending of the banking system (excluding exports, the bulk of which is at sub-PLR) constituted over one-third of their total lending. Since foreign banks have higher PLRs, sub-PLR lending accounted for about 60 per cent of their total lending. The spreads around PLRs of public sector banks normally ranged from (-) 3.0 per cent to 4.75 per cent for the quarter ended June 2002 whereas such spreads (excluding 5 per cent of the credit sanctioned at extreme rates on either side of lending) ranged from (-) 3.0 per cent to 4.0 per cent.
23. In recent years, there has been a persistent downward trend in the interest rate structure reflecting moderation of inflationary expectations and comfortable liquidity situation. Changes in policy rates reflected the overall softening of interest rates as the Bank Rate has been reduced in stages from 8.0 per cent in July 2000 to 6.5 per cent by October 2001, which is the lowest rate since May 1973. Similarly, the repo rate has been moderated from 8.0 per cent in March 1999 to 5.75 per cent in June 2002. Simultaneously, the weighted average call money rate has come down from over 13.06 per cent in August 2000 to 5.74 per cent by October 2002.
24. Similarly, the cut-off yields on 91-day and 364-day Treasury Bills have declined from 10.47 per cent and 10.91 per cent in August 2000 to 5.72 and 5.80 per cent, respectively, by October 2002. While the weighted average discount rate on 3-month CP declined from 12.1 per cent in August 2000 to 6.53 per cent in mid-October 2002, typical interest rate on 3-month CD fell from 10.25 per cent in August 2000 to 6.2 per cent in September 2002.
25. The yields on government securities with 1-year and 10-year residual maturities fell from 10.82 per cent and 11.47 per cent in August 2000 to 5.92 per cent and 7.07 per cent, respectively, by October 25, 2002. The yield on AAA rated corporate bonds with 5-year residual maturity has declined from 12.15 per cent in September 2000 to 7.0 per cent by October 2002. The interest rates on term deposits of public sector banks over one year have declined from 8.0 - 10.5 per cent in September 2000 to 6.5 - 8.25 per cent by October 2002. Similarly, the PLRs of public sector banks have declined from 11.75 - 13.0 per cent to 10.0 - 12.5 per cent.
26. By and large, in line with the announced policy of the Reserve Bank, in the recent period, there has been substantial reduction in interest rates on various types of paper. The average lending rates of banks are also lower, although to a lesser extent. The reduction in interest rates has been across all maturities, from the short-term money market and Treasury Bill rates to long-term securities. This, combined with a benign inflationary environment, is a welcome development which augurs well for industrial recovery and sustained growth in the economy.