Though the government and the RBI are pushing for liquidity in the sys...
Jun 17, 2020
Though the government and the RBI are pushing for liquidity in the system, there lies a problem with this push. Examine.
The government’s post-COVID-19 relief and recovery package has disappointed many.
It provides little by way of additional budgetary resources to halt and reverse the economic and social collapse that the pandemic and the response to it has triggered.
Most estimates place the additional fiscal allocation implicit in the proposals at about a tenth of the size of the package, which the government claims amounts to around 10% of GDP.
In its effort to a 10% of GDP relief-cum-stimulus figure, the government has relied heavily on measures aimed at pushing credit to banks, non-banking financial companies (NBFCs) and businesses big and small, which are expected to use borrowed funds to lend to others, make payments falling due and compensate employees even while under lockdown.
In periods of crisis, individuals, small businesses, firms, financial institutions and even governments tend to experience a liquidity crunch. Relaxing that crunch is a focus of the government’s crisis-response package.
Among the first steps taken by the RBI was the launch of special and ‘targeted’ long term repo operations (TLTROs), which allowed banks to access liquidity at the repo rate to lend to specified clients.
That funding allowed big business, varying from Reliance and L&T to financial major HDFC, to access cheap capital to substitute for past high-cost debt or finance ongoing projects.
There is little evidence that this is triggering new investment decisions.
Banks are wary about lending to these NBFCs, because of fears that their clients could default in amounts that would bring the viability of these institutions into question.
These measures, which are only marginally effective even in the best of times, will not work during this crisis.
Faced with sluggish demand, firms are unlikely to meet past and current payments commitments from the fresh borrowings. This would mean that credit flow would actually not revive.
Overall, the “transmission” of the supply side push from these monetary policy initiatives for relief and revival is bound to be weak.
Given the circumstances, the liquidity push, even if partially successful, would only culminate in eventual default, as borrowers use the debt to just stay afloat in the absence of new revenues.
The measures are only likely to intensify the crisis, rather than resolve it.