Daily News Updates- 05/06/2021

[‘Daily News Updates’ will provide you with a simplified understanding of the important economic/financial events across the country]

RBI Announces an Increase in Bond-Buying; to Purchase 1.2 Trillion Government Securities in the September Quarter

While the Reserve Bank of India kept policy rates unchanged, it announced that it would buy an additional Rs. 1.2 trillion worth of Government securities in the September Quarter under the ‘Government Securities Acquisition Programme’ (GSAP). The aim is to keep interest rates low and support the Government’s borrowing requirements as tax collections fall due to the pandemic. This is the second tranche of the GSAP programme, i.e., GSAP 2.0. Under GSAP 1.0, the remaining bond purchases (worth Rs. 40,000 crores) will be made on 27^th June.

[GSAP 1.0 was announced in the April policy review meeting by the RBI as a bond-buying programme from the secondary market].

Last year, we had published an article on debt monetisation. Debt monetization is basically financing of fiscal deficit by the Central Bank. The Central Bank purchases Government bonds directly from the Government.The Central Bank purchasing the equivalent amount of bonds from the market through Open Market Operations (not directly from the Government) also has the same effect. Till 1997, debt was automatically monetised in India. But the practice was ended, and it was decided that the RBI would conduct only Open Market Operations (OMOs) from the secondary market. While there was a heated debate among economists on whether or not the RBI should go for direct monetisation of debt, the temptation was resisted, and RBI stuck to OMOs. GSAP 1.0 and GSAP 2.0 are examples of the current programmes for OMOs.

While both debt monetisation and OMOs have the same effect, the inflation risks are different. OMOs are used by the RBI as a policy instrument, and it can control how much liquidity it wants to inject and when. But debt monetisation is a way of financing the fiscal deficit, driven by the Government’s borrowing requirements rather than RBI’s policy. Therefore, there is a much greater risk of inflation in debt monetisation compared to OMOs. While the economy was deflationary during the first wave of the crisis, debt monetisation could have been a viable option. However, with inflation rising during the second wave, debt monetisation is not a prudent option.

The decision by the central bank to purchase additional Government securities to inject liquidity in the market will keep interest rates low. Yesterday, we had reported that the RBI intends to use the monetary policy with a bias towards growth, and the decision to buy additional securities is another step in the same direction. Low interest rates will enable the corporates to borrow and expand, the consumers to borrow and spend, and increase Government expenditure, thus leading to an economic revival.

FM Sitharaman asks Ministries to Front-Load CAPEX

FM Nirmala Sitharaman chaired a meeting on the infrastructure road map yesterday. Various ministries and their public enterprises were asked to front-load (allocate a greater proportion of resources at the beginning of the fiscal year) their capital expenditure (CAPEX) and achieve more than their CAPEX targets. Enhanced CAPEX will revitalise the economy faster. “The Budget for Financial Year 2021-22 provided a capital outlay of Rs 5.54 lakh crore, a sharp increase of 34.5 percent over the Budget estimate of 2020-21.”

[What is Capital Expenditure? It refers to the estimated expenditure of the Government in a given fiscal which creates additional assets or reduces the liabilities of the Government. Example- Building National Highways, which increases the assets of the Government. Increased CAPEX is a tried and tested method of reviving the economy by stimulating demand].

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