COVIDSHOCK - 2020 GLOBAL CRISIS?

"It is when the horizon is the darkest and human reason is beaten down to the ground that faith shines brightest and comes to our rescue."  The world is facing humanity's biggest crisis since World War II. An outbreak from China has gone everywhere. There is a lot of uncertainty as regards how deep the slump will be. The only certainty is that it's going to be a deep crisis!

 A 0.12 microns sized virus has plunged the global economy and the shock has put all the economic activities at a halt. Such macroeconomic issues demand an immediate response from the central banks to safeguard the economy. The Reserve Bank of India (RBI) is responsible for conducting monetary policy in India. The responsibility is explicitly mandated under the RBI Act, 1934.

Covid-19 is unfolding its harmful effects at an alarming speed with massive disruptions in global production, supply chains, trade, and tourism. The global purchasing managers index (PMI) recorded its highest decline in history. The prices of crude oil plunged and deteriorated conditions for oil exporters. The global trade contracted by 3 percent as per UNCTAD (United Nations Conference on Trade and Development). The domestic industry market has been worst affected by the lockdown as the top industrialized states continue to be in danger zones. Electricity and petroleum products are the indicators of regular demand. The consumption level of such goods has declined to a great extent. The production of capital goods declined by 57.5 percent in April leading to lower levels of investment demand. The consumption of finished steel shrank by 91 percent. The manufacturing activity in the secondary sector reduced to 21 percent.

Moving on to the positive side of the report we analyze that the agricultural sector has provided a ray of hope. The production of food grains increased by 3.7 percent. Kharif sowing was higher by 44 percent as compared to last year’s acreage. In the external sector, as the Covid-19 paralyzed the world production and demand, the exports and imports suffered the worst. The trade deficit amounted to US$ 6.8 billion in April.  

Considering the anticipated macroeconomic impact of the pandemic, the monetary policy the committee took the decision to make changes with respect to policy rates. 

The following measures were taken by the RBI, on 22 May 2020:

• The policy repo rate was reduced under the liquidity adjustment facility (LAF) by 40 bps from 4.4 percent to 4.0 percent.

 • The marginal standing facility rate (MSF) and the Bank Rate was decreased from 4.65 percent to 4.25 percent. 

• The reverse repo rate was reduced under the liquidity adjustment facility (LAF) from 3.75 percent to 3.35 percent. 

The policy measure will have a limited impact in the short run but will greatly impact the longer scenario. In an unprecedented economic situation, the rate cut will be helpful to boost the liquidity in the banking system which is the real challenge. The reduction of reverse repo rate by the RBI will encourage the banks to lend to the productive sectors of the economy. As seen in the above data, the investment in capital goods decreased and therefore important sectors couldn’t flourish. To drive up the growth of such sectors, this policy is effective. This also eases the EMI burden of customers. The reduction of repo rate will encourage the respective homebuyers to carry on with their plans of investing in a home. The growth of the real-estate sector will be seen. It will also stop banks from securing their additional funds with RBI and increase the lending activity in the financial market. The banking sector will be flooded with higher demands and it will be challenging. The outcomes will help in sustaining the positive market sentiments. However, it is a real-time economy where a dynamic relationship is experienced between different sectors and variables. Present values are greatly affected by past values. Therefore, there exists a high level of uncertainty between the inflation-growth scenario. 

When the tides turn and all the chips are down, its RBI to which the country looks for support. It carefully observes the economic environment and macroeconomic issues prevailing and then provide respective policy measures. To battle with the unforeseen and dynamic economic conditions, RBI will continue to make use of all its instruments and even introduce new ones if required. In this case, RBI prescribed a contractionary monetary policy after observing the tensions in the economy due to spread of Covid-19.