No Rate Cut Is Not Disappointing! The Monetary Policy Statement Is!

Dec 7, 2016

In this issue:
» Growing Wealth Inequality in India
» Cash Crunch Impacts Farmers
» market roundup
» ...and more!
Madhu Gupta, Research analyst

Markets have swung to both sides of the dotted line since the start of the session today. Anticipation of a rate cut by the RBI and its absence has been the biggest influence.

The noise about rate cuts have been around for long. But this Monetary Policy was of significance for several reasons. The Committee in charge of the policy has a new governor. It's the first policy post demonetization. And this will soon be followed by the Fed's decision on interest rates. So there would have been a host of factors to consider this time around.

Now, as you know, rate hikes and cuts never really disappoint or enthuse us. For in no way do they impact our long term views on stocks.

Yes, we did expect the RBI to cut rates by 0.25% to 0.5% considering the liquidity scenario. But it seems there are reasons (which may be inflation, foreign exchange risks etc etc) for the RBI to stay cautious.

What is disappointing is that the RBI has not only stayed away from making its stance clear on demonetization. It has also not put its policy decision in the context of its concerns. That was usually the case with erstwhile policy statements.

We knew that the withdrawal of the high denomination notes from the system was bound to create temporary uncertainty. However, amidst shortage of new notes the ad-hoc policy changes by RBI have added to the confusion.

In times of a currency crisis, the central banker is expected to take steps to dispel the air of uncertainty and instill confidence through regular updates and plans to tide over. But the central banker chose to remain mum. This was highlighted very well by Tanushree Banerjee. This is what she had to say

  • Past RBI governors - starting with Dr Bimal Jalan (Asian financial crisis) to Dr Subbarao (sub-prime crisis) to Dr Rajan (bank NPA crisis) - have been open and articulate with their opinions. We knew what they thought could work and not work. Investors and deposit holders had a sense of their options they considered and what they intended to do to sustain the stability and credibility of banks in particular and the monetary system in general. In short, there was trust. And the RBI governors earned it through their open and clear communication.

    Although banks have been at the core of the demonetsiation drive, Dr Urjit Patel chose not to comment for nearly twenty days. At such times, we would typically expect the central banker to outline a plan. However, what we got from Dr Patel was rather more like political rhetoric.

Even the decision to raise CRR to 100% had been knee-jerk to say the least. Although the move was intended to suck out the deluge of liquidity post demonetisation, it had jeopardized the already fragile profitability of banks weighed down by bad loans and poor credit growth.

The protracted shortage in money supply has led to a forced slowdown in consumption impacting India Inc. This in turn has put a question mark on economic recovery and pick-up in investments.

Let's make one thing clear - the economy would not have gained momentum from the rate cut alone. To set the paralyzed demand into motion, there needs to be more action beyond cuts in interest rates.

So irrespective of the market reaction to these short term uncertainties, just test the safety of your stocks and buy the safest ones.

03:45 Chart of the Day

As per Credit Suisse's Global Wealth Report of 2016, India is the world's second most unequal country in the world after Russia. More than half (58.4%) of the wealth in the country is owned by the top one per cent of the population. In fact, the share of wealth owned by this creamy layer has swelled up from 36.8% in 2000 to 58.4% in 2016.

Yawning gap between the rich and poor in India

And this gap will continue to widen until steps are taken to curb the movement of black money. Bringing greater transparency and accountability for every section of the society including businessmen, politicians and bureaucracy is the need of the hour. This will ensure that black money generation is nipped in the bud itself. My colleague Vivek Kaul has discussed in detail about the need for political parties to become transparent in their funding deals. Here's what he had to say

  • If Narendra Modi is serious about his fight against black money and moving India towards a cashless society, this needs to stop. If you, I and everybody else, are being encouraged to go cashless, why are political parties still allowed to take donations in cash and not declare the source of funds.

    Since the entire demonetisation issue is more about making a political point, the BJP can take a step forward on this front and promote the usage of Unified Payment Interface for cash donations that are made to a political party. In fact, the BJP should make all donations of less than Rs 20,000 compulsorily to be made through the Unified Payment Interface.

    This will work at multiple levels. The BJP will score political points over its rivals and allow Modi to take a moral high ground again. The economy will become more cashless. Further, there will be less infiltration of black money in political parties, given that those making a donation of Rs 20,000 or lesser can be identified as well.

Demonetization has addressed an insignificant part of the black economy. In the process, the unorganized section of the society, who by default became part of the black economy, has been adversely impacted. However, the bigger players who drive this black economy continue to thrive. At most, the demonetization exercise can hope to achieve is a higher financial inclusion and greater adoption of digital payment systems that will aid in the shift towards a cashless economy. But it remains incapable to stamp out the black economy and the growing wealth inequality in the country.


The flow of demonetized money in the form of high value notes of Rs 500 and Rs 1,000 have been flowing into the banking system quick and fast. The last update on November 28th from the RBI said about 8.45 lakh crores was deposited and exchanged since demonetization was announced. This means that around 60% of the currency demonetized has come back into the banking system.

The RBI in its monetary policy review today announced that around 11.5 lakh crore have been deposited in the banks so far. The central bank remained silent on providing the latest numbers on these invalid currency notes for over a week which was surprising. It seems that the overall black money estimated in the system was not in the cash form or people have found ways to sneak in their unaccounted money.

The expectation now is that the entire money might just come back to the banks. The windfall gains which were earlier expected now seems like a distant dream. The move towards cashless economy is beginning to hurt. Here is Vivek Kaul's latest issue, he has spoken on the pain points of the Indian economy going cashless. I would strongly urge you to read it here.


The cash crunch is taking a heavy toll on the farmers as well. They are facing huge problems. One of them is in the Market i.e. Mandi wherein they sell their produce. The Mandi is paying them by issuing a cheque. While the farmers have to pay back their suppliers in cash. This has put additional pressure on the farmers. This cash conundrum will last for the next five odd months.

On the positive side, use of informal credit and use of old notes have been allowed to purchase key inputs and produce, this has brought some relief to the rural economy. The crop planting has increased since the announcement of demonetization which is a positive sign. Despite these measures, the rural economy is suffering due to a lack of cash in circulation. Any adverse impact on sowing cycles of the farmers or their inability to carry out agricultural activities will be felt in the form of food shortages which in turn would spike inflation.


After opening the day on a flat note, the Indian stock markets traded below the dotted line. At the time of writing, the BSE-Sensex was trading lower by about 153 points (down 0.5%), while the NSE Nifty was trading higher by 42 points (down 0.5%). Sectoral indices were under pressure after the central bank announced their monetary policy statement and decided to keep repo rates unchanged.

04:55 Today's Investing Mantra

"You are neither right nor wrong because the crowd disagrees with you." - Benjamin Graham

This edition of The 5 Minute WrapUp is authored by Madhu Gupta (Research Analyst) and Rohan Pinto (Research Analyst).

Today's Premium Edition.

The Losers and Gainers of Demonetisation

With the demonetisation upheaval in stocks, here are some important things to remember while taking advantage of the situation.
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Dec 7, 2016

This is a matter of great regret that common man is not going to get any benefit. Banks have already reduced interest rates on deposit and in absence of non reduction by RBI, no interest will be reduced on loans. Probably the corporates may be able to negotiate for lower rate considering money availability in Banks.

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