ISSN (Print) - 0012-9976 | ISSN (Online) - 2349-8846

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Expanding Liquidity, High Interest Rates and Low Credit Offtake

EPW Research Foundation The complex phenomenon of expanding liquidity, high interest rates and low credit offtake is both the cause and the consequence of the slow-down of the economy, especially the industrial and service sectors.

High Cost of Financial Sector Reform

EPW Research Foundation High Cost of Financial Sector Reform The slow-down in industrial activity is now increasingly getting reflected in the portfolio behaviour of banks and financial institutions. Banks' initial reluctance to lend has been reinforced now by companies' unwillingness to borrow both because of the low level of industrial activity and the persistence of high inter erst rates. All aspects of financial sector liberalisation, however, preclude any significant lowering of interest rates by banks and financial institutions, even as company finance studies clearly show how mounting interest costs are having a severe impact on corporate results.

Credit Policy Skirts Basic Issue

EPW Research Foundation Credit Policy Skirts Basic Issue With the latest monetary policy announcement confining itself to the essentials of the stabilisation and structural adjustment programme, the mismatch between an abundance of liquidity in the system and industry craving for funds for investment has remained unaddressed. Money market developments, after the credit policy announcement particularly, have once again thrown into sharp focus the narrow groove in which the banking system has got stuck and the rigidity in the operations of banks and financial institutions encouraged by the limited perspective of financial sector reforms.

Clueless against Emerging Recession

EPW Research Foundation Clueless against Emerging Recession The RBI's conventional approach, reiterated in its latest Annual Report, of tinkering with reserve requirements and signalling monetary policy changes through open market operations may achieve the objective, to which the RBI evidently and attaches the highest importance, of establishing closer links among the money, capital, gilt foreign exchange markets, but it will certainly not help stimulate the dynamic role of credit in the development of the economy.

Interest Rates Refuse to Behave

EPWResearch Foundation Interest Rates Refuse to Behave Financial System in a Maze THE financial system is now caught in a Iabyrinthian maze. Though the Reserve Bank of India (RBI) has flogged the system with large releases of liquidity, the system itself has failed to respond and help the authorities in achieving a genuine downward shift in those elements of the interest rate structure which matter to the productive sectors. The rub lies in the authorities persistent dependence on indirect instruments of monetary control rather than reimposing direct interest rate regulations which the situation demands. The-free market policies have let loose unbridled competition among banks, financial institutions (FIs) and non-banking financial companies (NBFCs) to mobilise scarce financial assets of the community, which has spawned the most glaring mismatch between the yields offered on such assets and the rates of interest that are economical to the productive borrowers.

High Cost of Funds Forces Industrial Slow-Down

EPW Research Foundation High Cost of Funds Forces Industrial Slow-Down The heavy burden imposed by the high real rates of interest both on the government budget and on productive activity in the public and private sectors is coming to the surface more sharply than ever before. There are in fact ominous signs of an incipient slow-down of industrial growth.

Distortions Come to the Surface

EPW Research Foundation Distortions Come to the Surface Macro Perspective CAUGHT in the shocks of adjustment to a situation of liberalisation, the financial system, contrary to official expectations, has plunged into a quandary. Many distortions associated with a free-for-all environment have come to the surface. First, within a short period of a year or two the economy has swung to the extremes, from an abundance of liquidity to an acute shortage of liquidity and now back to an easy situation. Underlying these swings has been the dependence of the financial system on the injection of liquidity from outside, even as the natural growth of financial savings has remained stunted. The blocks of assets externally injected in spurts are gobbled up by the pent-up demand for funds by the private sector and the government alike. Secondly, the apparent consequence of sw ings in liquidity is seen in increased uncertainty for both the purveyors of institutional credit and productive enterprises seeking credit. Banks seem to have become extremely loan wary, thus seeking more solace in risk-free sovereign instruments. A third and final distortion is to be seen in the structure of interest rates. While immediate liquidity considerations are tending to push short-term rates downwards, the rates for bank loans and loans of term-lending institutions have remained high and sticky as a result of the high-cost funds mobilised by banks as well as the FIs.

Easing of Liquidity Is it Real

EPW Research Foundation Easing of Liquidity: Is it Real? A close look at the factors responsible for the easing of the long spell of illiquidity in the money market brings out very clearly that they can provide only a short-term respite.

Low Savings, High Demand for Funds

EPW Research Foundation Low Savings, High Demand for Funds Liquidity Strain: Experience THE financial year just concluded has faced certain unusual features in regard to the tight liquidity situation. The high growth of bank deposits and other financial instruments in 1993-94 and 1994-95 in the wake of sizeable foreign currency inflows gave way to sluggish growth in 1995-96 as these inflows were arrested. Domestic savings appear to have been unequal to the high level of demand forfunds from the government and corporates alike stimulated by earlier liquidity inflows. As against the targeted Rs 65,000 crore (17 per cent growth), aggregate bank deposit accruals are likely tobealittleoverRs 50,500 crore (13.1 per cent). Funds mobilised by mutual funds during the year are estimated to be about 58 per cent lower than in the previous year (Table 1). On the demand side, apart from the sizeable market borrowing requirements of the government and intensified needs of the corporate sector, a major factor that has put tremendous pressure on liquidity has been the demand placed on the market in the form of primary issues of bonds and equities by banks and financial institutions (Fls), essentially for satisfying, particularly in the case of banks, their capital adequacy norms, A tentative compilation suggests that the banks and FIs raised nearly Rs 9,000 crore in 1995-96. Besides reducing the availability of funds for the government and the corporate sector, such demands by the purveyors of credit themselves have given rise to unpreccdentedly high levels of interest rates.

Growing Inter-Linkages between Markets

EPW Research Foundation Growing Inter-Linkages between Markets There was a sudden revival of FIIs' interest in the stock market and portfolio inflows rose, the rupee which had dipped to the lowest level in early February began to strengthen and as this happened the market players scrambled for counterpart rupee funds to benefit from the available arbitraging opportunity between not only the domestic money market and the foreign exchange market but also between the spot and forward segments of the foreign exchange market.

High Interest Cost Weighs Down Corporate Performance

EPW Research Foundation While there are signs of the liquidity situation easing the result of continuous primary injection and its secondary impact the financial markets and the productive sectors are gearing themselves up to cope with a high interest cost economy.

Coping with the Liquidity Crunch

EPW Research Foundation Coping with the Liquidity Crunch Illiquid Scenario THE situation of severe liquidity shortage is getting reflected in the market players resorting to variousdevices to cope with it. Asexplained in Section II, the slump in the stock markets and the general illiquid scenario have shitted locus from equity to debt instruments hut this has also been accompanied by an unusually high rise in cost of funds. While banks have focused on raising funds through certificates of deposits (CDs) and bonds with such aggressive rates of interest as 16.5-21.0 per cent, financial institutions have sought to raise resources through bond issues at 16 per cent or over, apart from raising them also from foreign markets through floating rate notes (FR Ns) and foreign currency convertible bonds (FCCBs). A host of PS Us are slated to hit the bond market in the early months of 1996 Private corporate* are, however, finding it difficult to raise funds through domestic bonds, and hence are turning to the foreign markets based on the revised guidelines. Increases in prime lending rates by banks and financial institutions, substantial reductions in disbursements by the latter and also in loans by finance companies, corporates' plea lo rollover their loans and interest payments, and even defaults on their letters of credit (LC) commitments, are some of the other devices and repercussions - seen in coping with the liquidily constraints.

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