Tuesday, December 30, 2014







Arun Jaitley had said something about Inflation, Growth and Monetary policy; but the Indian Media  felt that he specifically wanted RBI to reduce rates. Arun Jaitley has stated now that he never referred to RBI or its Governor.

When P.Chidambaram was the FM, he too, I remember, had suggested for Reduction in lending Rates to promote Growth. Now, Jaitley has also articulated the same need  but nobody wants to criticize the RBI for its Monetary Policy, which is primarily the instrument through which RBI has raised rates to the current High levels.

But, I don’t see any reason why RBI or its Governor must be treated like Judges who should not be criticized for their Policies.  The  very evolution of economic policies and prescriptions depends on keen watching of such policies in real world and learning the lessons therefrom. Therefore, any fair criticism and any honest suggestion from any quarter to either the Government or the RBI is essential. Non-criticism of any Policy leads to its eventual decay of the theory behind the policy and that is what is what is happening to Monetary Policies across the world. Monetary Policy is fast becoming like religious beliefs - Unquestionable!! Scientific spirit with which Keynes and others propounded their theories warrants that the scientific spirit of questioning is kept alive so that economics remains a science and art and does not degenerate into a Blind Belief system.

When John Meynard Keynes propounded his theories on various economic options including Monetary Policy, I think, one of his basic assumptions was  that there exists full employment or near full employment of resources. When production exceeds demand, prices fall ; when demand exceeds production, prices rise. If we depress demand, then, prices will fall and production adjusts to demand. 

To depress demand, money supply on the demand side of the market must be depressed – and one instrument for doing so is the Interest Rates. This, in theory looks impressive. But the catch is – which demand, which production, which rates and which Inflation? These must exist in a related circle. Else, the policy prescriptions are not only not valid but will work like - shooting the visitors instead of the targets. Food Inflation cannot be tackled by increasing Interest Rates for steel production! Or for the Auto sector.

If Inflation is in food articles, it only means that (i) food production is not adequate or equal to demand or (ii) production costs and market mechanics are such that  there is no way to reduce food prices. The same thing holds good for inflation in any other sector.

Today, food consumption in India is a very, very small fraction of the food consumption in advanced countries like USA. There is HUGE MALNUTRITION among females and among males too. There is need to place more food into the hands of India’s poor and undernourished. MNREGA and other schemes are precisely for that, though, their implementation has been woefully suspect and ridden with corrupt practices. And, they did not have a strong productivity element attached to them. 

That said, India most certainly needs to achieve 2 things urgently (i) It must feed its population well (ii) it must make its population work hard. Neither of these is happening right now.

Which means, food production (and fair distribution) must go up significantly and immediately. Which, in turn, means, it should also become cheaper. Which also means, credit for food production processes at all stages must be available at cheap rates. 

But, with Repo rates at over 8%, how can this happen?

When Repo rates were going up every two months once, like anyone else who studied Economics, I also felt that Food prices and manufactured articles prices are going to come down. It didn’t happen. It’s very opposite was happening all the time. As repo rates went up, prices also went up, every time. Instead of an inverse relation between the two, I was observing  a DIRECT RELATIONSHIP  between the two. After 2 years of prices  and Rates chasing each other, I strongly felt, there was some factor that made this economic theory wrong, or inapplicable, or, some factor was obstructing the rates from influencing prices inversely.

In Indian context, High Rates, in my opinion, can never bring down prices, be it food prices or prices of manufactured articles. On the other hand, what has happened so far is – cheap Chinese and other foreign articles have driven out our all Indian manufactured articles from INDIAN MARKET itself. High Rates alone may not be the single factor which did it. But, in my view, it is definitely ONE FACTOR, which did it. 

The other factors are – bad production practices, low skills, bad marketing practices and the largely prevalent  stupidity in many of us that anything FOREIGN is better than anything Indian. India did not build enough Nationalism at least – to “Buy Indian”, even if it is a little costlier, since, overall, for the country, and for the Individual, this is the only thing that assures employment for all of us, for Indian materials and for Indian production and therefore, ultimately cheaper

Indian Interest rates, are not helping Indian Production to be competitive - in a globalized environment. We must not forget that Indian Interest Rates cannot impact Chinese production which is swarming the Indian market. Our Rates depress our market and our production - not Chinese production. To that extent, Monetary Policy theory also needs adjustment in Globalised environment.

Indian Rates, in any case, are not contributing to improving the Indian employment. Indian Rates do not tend to make prices cheaper but tend to make them costlier – costlier than, for instance, Chinese products, which are swarming the Indian markets. If Interest Rates are close to zero in China and over 8% in India - India can't fight China even within India. Real Interest Rates, as we know, are even much higher than this in India.

I am not one to seek reduction in interest rates because Inflation has come down. I am one who feels Interest Rates must come down to international levels quickly so that Indian production becomes cheaper and possible.  High Interest Rates, in my view, can never bring down either food Inflation or Inflation in Manufactured articles.   

The one strong reason for this is , there is Huge unemployment of all resources in India – especially labour. There is acute lack of consumption and India must not depress it any further. We must promote  consumption of more food, more steel, more cement, more of almost everything. With so much of unemployment and under-consumption, High Interest rates can only work to raise prices and make all articles out of bounds for ordinary consumer.

Now, price Index has fallen. Question is, has it fallen due to RBI’s rate policy? All of us know that many international factors reduced prices of oil etc. Government policies reduced prices of some articles within India. Now, waiting to see if Oil prices hold at current low prices and then to act on Interest Rates in India does not seem to be LOGICAL AT ALL. Ditto for other article prices. They too did not fall due to High Interest Rate Policy. 

I don’t think any of these prices will go up, if RBI reduces interest Rates. The only thing that will happen is, cost of capital will come down and more and more Indian industries can become more profitable and less loss-making. This will encourage Indian production and possibly, it may become more competitive than Chinese, at least within India. India can’t have its steel making Industries, auto Industries, Infrastructure industries and possibly its food Industry struggling as at present to make the two ends meet.

That said, I can say  that RBI is Hundred percent right in theory - to enhance rates when prices go up. That has been the theory and therefore, RBI is right in that. But, that theory itself does not hold good, when so much of unemployment and under-consumption is staring India. That is the point I am making.

If production goes up, prices will automatically come down. Production will go up, if cost of capital comes down. We must (i) at least match Chinese prices and quality within India and (ii) then, aim to beat Chinese prices and quality in China.

Government of India and RBI both must be aiming for this. Right or wrong? Modi's MAKE IN INDIA may yet succeed, since the FDI which comes in may not look for bank Credit from Indian Banks, but, may seek it from Foreign banks at much lower rates. But, is this Good for Indian banking system?

I must clarify, like Arun Jaitley, that I am not for criticizing Raghuram Rajan or RBI or Government. I am only saying – RBI and Government both must enable India to produce more , better and at cheaper prices. For me, much higher consumption and much higher production by Indians is the need of the Hour. 

RBI and Government must look at the Huge Pain that the Poor and undernourished and underemployed in India are going through and do WHATEVER IT TAKES  to alleviate that. One measure RBI can take is – reduce Interest Rates drastically. In my view, prices will move neither up or down because of this measure, because these is unrelated ( in a scenario of Huge unemployment and under-consumption). Waiting for oil prices or any other prices to stabilize for this purpose, I think, is unreasonable.

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