Monetary Policy is generally declared by RBI and related to
interest rate … I hope you all have heard this quite a often in news channels
and from the speech of Rajan …. By the way what is this ? CPI,CRR,Repo,Rate cut
…. OMG!!!! These are not easy and hence market is not my cup of tea J
But in fact these are very simple at least common man
understanding point of view … At least we can get an idea how this will impact
our monthly family budget and stock market …..
So without wasting time let me start one by one......
Repo Rate:
When banks want to borrow money from RBI , the rate at
which RBI lends money to banks is called Repo Rate.
Ex: If Repo rate is high then the then cost of borrowing
is high .Then what will happen? Banks will lend money to us in a higher
interest rate .Hence house loan , educational loan and other loans will be
costlier for us .. Isn’t it !If banks will get loan from RBi at 8% interest
rate , then they will give us loan more than that rate , it may be 9,10,11 or
12 though there are some rules but definitely not below 8%.
That’s why Bankers, Market do not want RBI to increase
repo rate … Got it J
Reverse Repo Rate :
It is just opposite of repo rate. In this case banks lend
money to RBI .In this case banks are happy to give loan to RBI instead of big
corporate because the chance of getting default is NIL J
But here also there is a twist. Suppose if Reverse Repo
rate is high and banks lend money to RBI heavily , and they don’t lend to
corporate and hence liquidity in the system tightens .Consumption dampens if it
continue for a long time .Hence high Revese Repo rate is also not good for
economy isn’t it !
CRR (Cash Reserve Ratio):
Every
bank is mandatorily required to maintain funds with RBI. The amount that they
maintain is dependent on the CRR. If CRR increases then more money is removed
from the system, which is again not good for the economy.
The RBI meets every quarter to review the rates. This is a key
event that the market watches out for. The first to react to rate decisions
would be interest rate sensitive stocks across various sectors such as – banks,
automobile, housing finance, real estate, metals etc.
Statutory Liquidity Ratio (SLR):
Every bank is required to
maintain at the close of business every day, a minimum proportion of their Net
Demand and Time Liabilities as liquid assets in the form of cash, gold and
un-encumbered approved securities. The ratio of liquid assets to demand and
time liabilities is known as Statutory Liquidity Ratio (SLR). RBI is
empowered to increase this ratio up to 40%. An increase in
SLR also restricts the bank’s leverage position to pump more money into
the economy.
Now the Big Monster is Inflation .What is inflation?
All things being equal, if
the cost of 1 KG of onion has increased from Rs.15 to Rs.20 then this price
increase is attributed to inflation. Got
it !
Inflation is inevitable but a high inflation is not desirable
and creates uneasiness for economy because consumption dampens and saving
reduces and hence domestic investment from retail people too . Nobody will tell
you domestic retail part but I will as I know the power of common Indian.
There are 2 types of inflation
- WPI (Wholesale Price Index)
- CPI (Consumer Price Index )
WPI
|
CPI
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The WPI indicates the
movement in prices at the wholesale level. It captures the price increase or
decrease when they are sold between organizations as opposed to actual
consumers.
|
The CPI on the other
hand captures the effect of the change in prices at a retail level. As a
consumer, CPI inflation is what really matters. The calculation of CPI is
quite detailed as it involves classifying consumption into various categories
and sub categories across urban and rural regions. Each of these categories
is made into an index. This means the final CPI index is a composition of
several internal indices.
|
WPI is an easy and
convenient method to calculate inflation. However the inflation measured here
is at an institutional level and does not necessarily capture the inflation
experienced by the consumer.
|
The computation of CPI
is quite rigorous and detailed. It is one of the most critical metrics for
studying the economy. A national
statistical agency called the Ministry of Statistics and Programme
implementation (MOSPI) publishes the CPI numbers around the 2nd week of every
month.
|
The RBI’s challenge is to strike a balance between inflation and
interest rates. Usually a low interest rate tends to increase the inflation and
a high interest rate tends to arrest the inflation.
Index of Industrial Production (IIP):
The Index of Industrial Production (IIP)
is a short term indicator of how the industrial sector in the country is
progressing. The data is released every month (along with inflation data) by
Ministry of Statistics and Programme implementation (MOSPI). As the name
suggests, the IIP measures the production in the Indian industrial sectors
keeping a fixed reference point. As of today, India uses the reference point of
2004-05. The reference point is also called the base year.
Roughly
about 15 different industries submit their production data to the ministry,
which collates the data and releases it as an index number. If the IIP is
increasing it indicates a vibrant industrial environment (as the production is
going up) and hence a positive sign for the economy and markets. A decreasing
IIP indicates a sluggish production environment, hence a negative sign for the
economy and markets.
To sum
up, an upswing in the industrial production is good for the economy and a
downswing rings an alarm. As India is getting more industrialized, the relative
importance of the Index of Industrial Production is increasing.
A lower
IIP number puts pressure on the RBI to lower the interest rates.
Purchasing Manager Index (PMI):
The Purchasing managers index (PMI) is an
economic indicator which tries to capture the business activity across the
manufacturing and service sectors in the country. This is a survey based
indicator where the respondents – usually the purchasing managers indicate
their change in business perception with respect to the previous month. A
separate survey is conducted for the service and the manufacturing sectors. The
data from the survey is consolidated on to a single index. Typical areas
covered in the survey include factors such as new orders, output, business
expectations and employment amongst others.
The PMI
number usually oscillates around 50. A reading above 50 indicates expansion and
below 50 indicates a contraction in the economy. And a reading at 50 indicates
no change in the economy.
Apart from this Budget and Corporate earnings are 2 different
factors influencing country’s economy.
So are you ready for next monetary policy to hear from
RBI Governor and make your own predictions J ……..
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