It's official. Dr Bimal Jalan, Governor, Reserve Bank of India, is a person of extreme caution. Like Sanjay Bangar and his innings in Jalan’s beloved Kolkata, Jalan would rather curb his natural talent and miss his century, than go for his strokes. Some weeks ago I wrote in this column about India’s burgeoning foreign exchange reserves. In just one year (from October 26, 2001, to October 25, 2002), they have increased from US $45.2 billion to $64.0 billion. In the current fiscal alone, they have increased by $10 billion. Jalan deals with this issue quite extensively in his Mid-Term Review of the Monetary and Credit Policy for the year 2002-03 published last week. The first point to note is that there are no signs of abatement in the furious pace of growth of foreign exchange reserves. Export performance is good, and in the first five months of the current financial year, exports have increased by 13.4 per cent over the corresponding period of the previous year. The Review notes that the RBI had conducted a survey and found that exporters have a high level of satisfaction. More efforts are being made, according to the Review, to make the export credit delivery system customer-friendly and efficient. Jalan also notes that procedures for financial transactions for non-residents have been simplified considerably. The policy governing foreign direct investment (FDI) has been liberalised. FDI up to 100 per cent has been allowed in more sectors, NRI deposit schemes have been rationalised and, with the exception of one, all schemes are now fully convertible. If the N.K. Singh Committee’s recommendations on FDI are implemented, there will be further liberalisation of FDI policy. The Review also nails the criticism on the quality of the foreign exchange reserves. Almost the whole addition to the reserves, in the last few years, has been made without increasing the overall level of external debt. That means that the ‘‘increase in reserves largely reflects higher remittances, quicker repatriation of export proceeds and non-debt inflows’’. If none of these factors is likely to change adversely in the immediate future, the growth in foreign exchange reserves will continue to be high, and we may expect reserves to touch $70 billion by end March 2003. Jalan admits that there is a net financial cost of holding reserves. He defends the cost on the ground that it has to be balanced against other ‘‘economic costs’’. What are these other costs? According to Jalan, ‘‘sharp exchange rate movements can be highly disequilibrating and costly for the economy during periods of uncertainty or adverse expectations, whether real or imaginary’’ (emphasis mine). Hence the policy of ‘‘watchfulness, caution and flexibility’’. I think the expectations of uncertainty are more imaginary than real. Even factoring for a war in West Asia and a spurt in oil prices, the level of our foreign exchange reserves presents an opportunity to take a more aggressive stance. What Jalan is not willing to take into account is the opportunity cost of holding very large reserves. Of what value are reserves if we cannot put them to use? It would be like the hoard of a miser. A more painful comparison is the huge stock of foodgrain which rot in the godowns even while there are reports of starvation deaths. I readily admit that the RBI has not denied foreign exchange to anyone who needs it. In fact, the policies have been liberalised considerably during Jalan’s tenure. I suspect that Jalan has not got over his ‘‘baptism by fire’’ in 1997 when the Asian currency crisis tested his mettle. Jalan’s policy of ‘‘money and measures’’ helped India weather that storm. As he prepares to begin his second innings, I would urge Jalan to re-examine the opportunities that India may be missing by simply accumulating reserves rather than using them to promote rapid growth. The other interesting aspect of the Review is the part that deals with interest rates. Thanks to low inflation, RBI has nudged the interest rate downward since 1997. The reduction in interest rates has been across all maturities and across all instruments. Just look at a few examples. The weighted average discount rate on Commercial Paper of 61- to 90-day maturity has declined from 9.46 per cent in March 2002 to 6.53 per cent by October 2002. The average cost of issuance of government securities has come down from 13.75 per cent in 1995-96 to 9.44 per cent in 2001-02. In the current fiscal, the Central Government has completed 77 per cent of its market borrowings at a substantially lower cost than last year. It is lower by 192 basis points. The all-round softening of the interest rate structure has — or should have — two material consequences to the average citizen. Firstly, what will her money deposited in a bank earn for her? One-year deposits will typically earn 6.50 -8.25 per cent, a savings bank account will earn 4 per cent and a current account nothing. There is resistance to these rates. Selling these rates to the average depositor is a political problem, but this is the direction in which interest rates should move. But the second question is what is the cost of borrowing to an average businessman? The Review boasts of sub-PLR lending, that is banks are giving loans at below the Prime Lending Rate. It seems to me that the phrase ‘sub-PLR’ is an oxymoron. Typically, PLR of public sector banks is between 10.0 and 12.5 per cent. If sub-PLR constituted over one-third of total lending, should not the PLR itself be lowered significantly? Besides, who are these sub-PLR borrowers? Are these cases of debt swaps or replacements? Every day I hear tales of woe from borrowers. High interest rate is one of the main reasons for low new investment and large non-performing accounts. PLR is still unacceptably high. The spreads around PLR (up to 4.75 per cent) point to a high degree of inefficiency. It is not enough for Jalan to cut the Bank Rate by 0.25 percentage point to 6.25 per cent. As the Review admits, the sensitivity of lending rates to the Bank Rate is now relatively weak. If the policy of a softer interest rate regime has to make any sense, Jalan must force banks to improve efficiency and reduce the lending rates. Jalan has the golden touch. He must now go for bold stroke-play.
