Growth boost or caution flag? RBI sends conflicting signals with surprise moves

India’s central bank under new Governor Sanjay Malhotra is giving market participants conflicting signals about monetary policy as it takes aggressive steps to spur economic growth and lending.

The Reserve Bank of India surprised analysts last week by cutting interest rates more than expected and announcing a cash boost for banks, citing the need to spur growth. Yet, at the same time, it changed the policy stance back to neutral after just one meeting, a relatively hawkish signal on future rate cuts. Malhotra — who has been in the role for six months now — said at the time there’s “very limited space to support growth.”

Taken together, the message is a “somewhat confusing policy signal,” said Priyanka Kishore, principal economist at Asia Decoded Pte Ltd. in Singapore. “This lack of clarity could potentially hinder the effective transmission of interest rate cuts, thereby undermining the policy’s objectives.”


Malhotra is seeking to boost growth after recent data showed the economy grew 6.5% in the past fiscal year, well below the 8% Prime Minister Narendra Modi needs to meet his ambitious goals for the nation. Yet despite three rate cuts under the new governor, consumers and businesses are reluctant to borrow, leading banks to park much of that cash rather than lend it out.

The central bank didn’t respond to an email seeking comment.

Recent liquidity steps taken by the RBI also appear to be contradictory to some analysts. Despite excess funds in the market, the RBI said last week it will cut the cash reserve ratio for banks in a phased manner — a move that will pump 2.5 trillion rupees ($29.2 billion) into the banking system from September.

On Monday, the RBI then announced it will discontinue daily liquidity injections, leading to speculation the central bank’s next move may be actively withdrawing excess cash from the market.

“With banking system liquidity ample, the need to use a blunt tool like the CRR is unclear,” Sonal Varma, chief economist for Asia ex-Japan at Nomura Holdings Ltd. in Singapore, said after the RBI’s policy decision last week.

The RBI’s moves triggered volatility in bond yields, prompting two state-run companies to scrap their plans to sell rupee-denominated debt. The average yield on top-rated three- and five-year corporate debt rose eight basis points and nine basis points, respectively, this week after dropping 4-5 basis points after the central bank’s liquidity boost on Friday.

Loan Growth

The CRR cut comes on top of a record 9.5 trillion rupees of liquidity already pumped into the banking system since January. With credit demand remaining sluggish though, banks are parking the excess funds with the RBI rather than extending loans.

As of June 10, banks had deposited 2.7 trillion rupees in the central bank’s overnight facility. Meanwhile, India’s loan growth dipped below 10% last month for the first time in more than three years, according to RBI data.

The excess funds in the system have dragged rates on secured money market instruments far below the RBI’s policy rate of 5.5% and even lower than the central bank’s interest rate floor.

The new monetary policy committee under Malhotra has made a shift from the past by using the policy stance as a tool of forward guidance on interest rates, said A. Prasanna, chief economist at ICICI Securities Primary Dealership Ltd., a bond trading firm. In the past, the stance represented the RBI’s comprehensive view on liquidity, interest rates, money supply, and credit conditions, he said.

“We are not used to such guidance, so it may be confusing for market participants, depending on their expectations from policy,” Prasanna said.