Author: Subhodeep Mukhopadhyay.
The Mumbai-centric RBI believes in the “global” model of lower interest rates. Lower interest rates they say drives growth. The idea is that when interest rates are low, companies will borrow more at lower rates and expand their businesses. More employment will be generated. At lower rates, people will borrow more to buy electronic gadgets, houses, cars and go on foreign vacations. This will in turn spur demand. Companies will produce more. There will be more jobs and prosperity. With low interest rates people will move away from fixed deposits and park more money in equity. Share markets will boom. Sensex will zoom. India will grow.
At least that’s the theory. Unfortunately that model has never seemed to work in India.
Fact in case – the amount of money banks park with RBI is at a record high of 7 lakh crores as of April 2020. The technical term for this is reverse repo – a term you might have heard of recently because has RBI reduced reverse repo rates drastically[i]. So let me explain what this all means.
A financial institution borrows money at lower cost and lends at higher cost so that it can make a profit. They may take loans or offer fixed deposits to raise money at say 6% and then they lend it to corporates and individuals at say 10%. When a bank has raised more money than it can lend, it parks the excess money with RBI a rate called reverse repo rate. The fact that money parked under reverse repo is at a record high indicates that banks would rather keep their money with RBI at lower rates than lend out to consumers at higher rates. This extreme risk aversion shows that banks have ZERO confidence in the ability of corporates and people to pay back money which they borrow.
“Banks’ parking of funds with the Reserve Bank of India (RBI) is close to record highs …. reflecting the risk aversion among banks even as the regulator is nudging them to lend. Lenders are comfortable keeping funds at the safest possible option even though the returns are meagre compared with what they might have earned from lending to corporates.”[ii]
People have no money
The core of the issue in my humble non-expert opinion is a demand problem, and no amount of tinkering with interest rates will solve the problem. People in general don’t have money – and this is something I have seen in my interaction with numerous people belonging to lower socio-economic strata. And when there is less money all around, people in India will not spend – they will focus only on roti and forgo kapdaa and makaan (discretionary spending). In our local kirana store, the largest selling biscuits for the past 3-4 years has been Parle G’s Rs 3 biscuit. Earlier the same shop would easily sell Britannia and Milano cookies.
This phenomena is not restricted to the poor. It has affected even the middle-class. Thousands of apartments remain unsold in all major metros. Residential complexes have become ghost towns[iii].
The automobile industry has been facing a massive crisis for the last 2-3 years now. In fact this crisis has been pervasive across numerous sectors and people have been slowly moving away from discretionary spending towards essential needs.
We are not like the west, where people borrow money to spend. We don’t have a credit card culture like them. We are by and large not a consumerist society, since the idea of conservative Dharmic prudence is still part of our psyche. So if Indians don’t have money they will not spend. Period.
IMF, World Bank and RBI approved global models of lowering rates will not work. In fact it will further harm the economy. And also our culture.
The economic crisis in India in the last 4-5 years, has given a massive boost to the Christian-conversion industry. What the government is not offering, the Church is offering – money, food and jobs. In my estimate there has been more conversions to Christianity in the last 4-5 years than ever before. In my locality in the last 4-5 years, EVERY SINGLE lower-socio economic family has converted because of the financial benefits and I don’t blame these people one bit. It is not greed which drives them but need – a need which the so-called Hindu Nationalist government has failed to address.
This is not the first time NDA government has experimented with low interest rates. The earlier BJP government (1998 to 2004) under Atal Bihari Vajpayee, reduced interest rates to spur growth and came out with the “India Shining” campaign. They lost miserably in the 2004 elections.
The current government has been making the same mistake by reducing rates for the last many years, ostensibly to increase consumption and demand, but without addressing structural issues. Deposit interest rates have been reduced numerous times in the last 2-3 years, down from 8-9% to 5-6% levels. One would theoretically expect a surge in home loans, car loans and personal loans, and a decrease in fixed deposits. Unfortunately that has not been the case. Credit demand has remained muted, while aggregate deposit of scheduled commercial banks have grown at 9% annually in the last 2 years[iv].
Why do these “global” models, vetted by IMF and World Bank, fail in India? It is because we are primarily a conservative society which believes in high savings. The poor, the middle-class and the retired in India are generally risk-averse. They park their hard-earned money in fixed deposits, NSC, KVP or gold and not in shares. India’s gross savings rate, while decreasing is still above 30% of GDP.
Reduction of fixed deposit, NSC and KVP rates have devastated the poor, the middle-class and senior citizens. Their disposable income has come down drastically in the last few years – and this is a double whammy for many especially with growing unemployment. Not only do people have lower or no income, even their hard earned money now gets meagre returns. The common man sees his limited savings dwindling rapidly, and this instils a crisis of confidence against the government. All the benefits accrued on account of stupendous achievements like Ram Mandir resolution, Article 370 abrogation, surgical strikes against Pakistan and Doklam win, are frittered away because of poor economic policies.
In India, the common man views decreasing deposits rate negatively – he sees it as a sign of government not being able to manage the economy. And so he will put more money in banks, especially public banks like SBI. He does not invest in equities and mutual funds to the extent our Sensex pundits want. On top of that he buys gold instead of spending because he views gold as his only social security in a country which has practically no social security.
Poor borrow at high rates
On the other hand, the borrowing cost for the poor is still high at around 24% (or 2% per month). This has not decreased in the last decade. Banks do not lend to the poor in practice. If you don’t believe me you can check with your driver, maid, cook, plumber or electrician, or with any random Amazon or Swiggy delivery guy. The benefit of reduced interest rates never accrue to the poor. They have to borrow at high cost from NBFCs (especially NBFC-MFIs) – the one sector which has done a fantastic job in bringing about financial inclusion without any government support (and I would add, despite severe government interference).
So the poor are borrowing at 24% but are forced to save at 6%. This is the great interest-rate divide that India needs to bridge – and tinkering with reverse repo rates and taking about “fiscal deficit” and “open market operations” will not solve this issue. This is in fact a particular manifestation of what Rajiv Malhotra refers to as the divide between Sensex India and Bharat.
I have coined the term Sensex India to refer to the western-style institutionally organised economy and lifestyle. This includes all those Indians who relate to the corporate sector as investors, producers or consumers. The major metros and second-tier towns are now largely taken over by this segment, and belonging to it is considered synonymous with being “modern” … Bharat is the term that refers to traditional India. Whether one thinks of pre-colonial Indian native society as good or bad, there is no doubt that such a society has survived for a very long time, and that many pockets of India still live in traditional lifestyles deeper than mere symbolism and ornamentalism[v].
While Narendra Modi has relentlessly focused on the uplift of the poor and their betterment, the RBI as well as many in finance department seem to focus only on Sensex India, and the so-called formal economy and corporate sector, and have not supported him adequately in his endeavors. Consequently, Breaking India forces are actively taking advantage of this great financial divide, and creating further ruptures in the fabric of our society.
India must print notes
Japan has lead the way in this regard. Recently Prime Minister Shinzo Abe proposed the country’s biggest-ever stimulus package to help the economy recover from the aftermath of the coronavirus. Worth $990 billion dollars, it is equivalent to 20% of their annual output[vi]. The US has unveiled a $2 trillion dollar package which is 10% of their annual output. Most European countries have announced similar stimulus packages.
India must also come out with a world class stimulus package like Japan and US because we are dealing with 2 crises[vii]:
- the pre-existing demand-side issue of the last 10 years
- the current supply side squeeze on account of coronavirus.
Print money and hand it to the poor – the electrician, the plumber, the farmer, the driver, the maids, the vegetable vendors. Restart closed government factories instead of trying to sell them off to private players – and print notes to get money to the laborers. Build roads, dig wells and ponds, and plant trees and dole out money to daily-wage laborers. Think about huge labor intensive (as opposed to capital intensive) industries employing tens of thousands of factory workers. Build schools, colleges, hospitals, toilets and shelters for the poor, and print notes to pay the workers. We have to focus on creating small scale industries on a war footing. Agriculture needs massive economic boost, and we must move away from so-called modern pesticide-dependent farming methods back to traditional organic methods. Of course we must modernize, but not westernize. Only when people have disposable income, will they start spending.
Currently we are facing a supply side constraint on account of the current pandemic. Factories are facing labor crunch and production is at an all-time low. Transportation is heavily affected and this is also affecting supply of raw materials and finished products. But in my view this will get resolved in 6 months or so, and will catch up with any increased demand on account of a large stimulus. As Narendra Modi has said, we must make use of this opportunity to become self-reliant and self-sufficient[viii].
Differential FD rates
At the same time, I propose a change in Fixed Deposit rates structure – let banks offer progressively higher rates to poor and lower rates to cash-rich corporates. Effectively the banks overall deposit rate will remain the same.
For example, offer 12% or more, to a daily wage earner, 9% to someone earning Rs 40,000 but offer 0.1% FD rates to the likes of Reliance, Wipro and Infosys. This can be easily done because banks do offer differential interest rates to customers.
Bharatiyas have an innate entrepreneurial spirit. When there is free flow of money in the economy and minimal governmental interference, we will see a massive rise in entrepreneurship, employment and economic boom in small towns and villages, which are the engines of our growth. This boom will not happen merely by supplying cheap credit to Sensex India which is where the current focus is on. That is only one (small) part of the story. To kick-start the process, people across Bharat will initially need more money in hand to first meet their basic living needs.
I will end this piece by confessing that I am neither a trained economist, nor a financial expert nor a Sensex Pandit. They will of course not agree with my “simplistic” and “naive” assessment – but sometimes simple models work best. This is a once in a life-time opportunity for us and we better not miss the bus again.
Subhodeep Mukhopadhyay is an IK with a background in data science. His research interests include finance, culture and philosophy. He is the author of “The Complete Hindu’s Guide to Islam” and “Ashoka the Ungreat”., Read More…
[vii] Please watch this discussion between Rajiv Malhotra and Dr Subrmanian Swamy to understand the origin of India’s extreme demand side crisis starting from the time when Dr Raghuram Rajan was the governor of RBI https://www.youtube.com/watch?v=TWx9EPD-oxs