What does easy money policy or accommodative financial stance mean, in the face of rising inflation? How does it affect people and the middle class in particular? A cheap money policy is meant to support people’s borrowing and spending boosts consumption on one hand and lets businesses borrow and expand their productive capacity on the other. Does it really happen that way or do we see the unintended consequences?
When Wholesale Price Index (WPI) inflation is 10.5 percent, Consumer Price Index (CPI) inflation for September at 5.3 percent looks out of sync. The latter was 6 percent in June and if anything, prices have gone up further in the interregnum. Experts feel that the CPI basket is unrepresentative and restrictive. Inflation data also under-represents services that play a big role in our life. Regardless of data churned out, inflation feels much higher. If the implicit inflation is around 7 percent but the bank rate on savings instruments is around 5 percent, actually the savers get a negative interest rate. The money available for lending is being lent really on zero to a tad higher interest rate. This is at a time of rising unemployment, low availability of jobs and falling income. The coping mechanism is to dissave or to cut consumption. When people’s capacity to repay comes down, they avoid borrowing. This has precisely happened to the middle class and below, apart from the structural impediments.
Who finally saves money in the bank? They are the broad middle class, particularly senior citizens, retirees and pensioners. The rich may keep most of their surplus in other asset classes or invest in the stock market. With a low interest rate for fixed deposits, a large swathe of the middle class faces negative interest rates and variability of interest-earning, which affect their survival and lifestyle. Their quotidian life of coping with reduced earning is a challenge for many. One can argue that other options like investment in financial technology firms or the stock market could have helped them. The peer-to-peer deposit/lending platform is fraught with risk, imperilling not only interest alone but principal too. The stock market is the minefield for the uninitiated. This is corroborated by stubborn figures of demat accounts despite a bull run.
Who are the beneficiaries of this accommodative policy stance of RBI? The Central Government has been able to borrow by issuing bonds at the low rate of 5.8 percent to meet its fiscal deficit. It is said to be the lowest rate in the last 17 years.
The second group is the corporates who get incentivised to borrow. But when they do not invest for capacity expansion in the face of low existing capacity utilisation, it takes the shape of repurchase of shares, increased leverage, and mergers and acquisitions. The balance sheet gets spruced up and the profit margin of these corporates increases. There is at least evidence from the US that low interest rates make superstar firms gain disproportionately and increase their market value and dominant position relative to other companies. They are beneficiaries of mispriced capital which do not reflect the cost of lending. When the implicit inflation is high, keeping the repo rate down is as good as levying a tax on the saving segment of the population. Worse still, money is moved from this not very affluent middle class to really affluent class. Meanwhile, the weaker side gets a negative real interest rate, grapple with inflation and countenance the diminished lifestyle. On the other hand, the rich manage to borrow large tranches, delay investment, and a part of the money probably finds its way to the stock market which is currently defying gravity. In 1973, Stanford economists Edward Shaw and Ronald Mckinnon coined the term financial repression to disparagingly refer to policies to channel funds from the private sector to the government themselves in easy terms to pare down their debt and to reduce their deficit. This said arrangement to transfer funds from the savers at below the inflation rate to the government is said to be repressive.But how do we designate the transfer of easy money from the middle class to the ultra rich in the name of growth? Accommodative financial stance ostensibly for growth has come to mean growth of a few economic actors and suffering of a large part of the middle class when confronted with inflation. Ironically, this growth imperative is financial repression by another name.
(Views are personal)
Satya Mohanty, Former Secretary, Government of India, satya_mohanty@ediffmail.com