Three cheers for the RBI? Depends on who you are.

Yesterday the Reserve Bank suddenly cut the repo rate by 25 basis points to 7.75% from 8%, well before its monetary policy review meeting on 3 February, causing the Sensex to zoom up by over 700 points. " It will lead to more money in the hands of the consumer and greater spending. It is a positive for the Indian economy. It will certainly help in reviving the investment cycle the government seeks to restore," said our Finance Minister. Really? Half of our top companies are nose deep in debt and will need around Rs 7 trillion to survive. According to a report by the Bank of International Settlements, till the end of June 2014, Indian banks and non-banks had borrowed $204 billion from abroad. The rupee fell on news of the rate cut and since most of the foreign debt is in dollars a significant fall in the value of the rupee could see many firms going bust. It does not mean more money in the hands of the consumer because interest paid by banks on term deposits will also fall and since that is a significant portion of our savings it will result in a fall in income, especially for pensioners. Also 25 basis points is too little for people to rush out to take loans to buy cars and other luxury goods. Debt of Indian households has grown 7 fold in cities and 4 fold in rural areas in the 10 years from 2002 to 2012. About 22% of households in cities and 31% of rural households are indebted. Besides low interest rates help only those who have the means to repay loans, which means those with high incomes, but are of no use to the middle class and the poor. Still the cut in the repo rate is good news because it shows that the RBI is now comfortable with the decline in inflation and does not see rising prices in the near future. If oil and other commodity prices remain subdued for the rest of the year the RBI could cut rates further, in steps. Industry fellows want a reduction of at least 200 basis points which will really make a difference. It will allow them to decrease their borrowing costs by paying off old loans with new ones and will allow banks to cut down their non-performing assets. Banks hold $48 billion in Non-Performing Assets and $52 billion in restructured loans so if banks can clean up their books they will be able to start lending again, especially for infrastructure projects which have a very long gestation period. However, the really resounding cheer is for the real estate sector which is beginning to stagnate. As prices rose so state governments increased taxes on properties which added to the cost. Besides since the white money portion of the cost of any property has increased hugely it is difficult for people to account for that money. With sales falling real estate companies are finding it difficult to borrow so they are cheering to the rafters. If prices collapse all the black money will be wiped out. We do not want that do we?