After holding on to Repo rate (the rate at which commercial banks borrow from RBI) for a long period, the RBI has announced its increase by 40 bps (basis points) to 4.4%. Consequently, RBI also raised the rates of SDF (Standing Deposit Facility—a liquidity meaning cash holding window through which the RBI will give banks an option to park excess liquidity with it) and MSF (Marginal Standing Facility which enables banks to borrow funds from RBI in emergency situations when their liquidity absolutely dries up) by more or less similar quantum to 4.15% and 4.65% respectively. Further, it also raised cash reserve ratio (CRR) by 50 bps to 4.5%. CRR is the percentage of a bank’s total deposits that it needs to maintain as liquid cash. This is an RBI requirement, and the interest free cash reserve is kept with the RBI compulsorily. A raise of CRR by 50 bps would result in allowing a bank to have cash to the tune of Rs 87,000 crores unlocked for lending purpose.
Explanation provided by RBI
These are the facts. Now the question is why have these rates been raised. The explanation provided by the RBI and many economists-columnists based on capitalist economic theories is that since inflation (meaning too much of money chasing too little goods and therefore triggering price rise) is going up at a higher pace, it is necessary to restrict cash circulation. When the interest rate rises, the cost of borrowing rises. This makes borrowing expensive. Hence borrowing will decline and as such the money supply (i.e., the amount of money in circulation) will fall. Moreover, common people would be encouraged to save more and reduce spending (provided the banks increase interest on deposits following hike in borrowing rate).
Thus, a fall in the money supply will lead to people having lesser money to spend on goods and services. Hence, they will buy a lesser amount of goods and services. This, in turn, will lead to a fall in the demand for goods and services. With the supply remaining constant and the demand for goods and services declining; the price of goods and services will fall. Apparently, it looks very convincing if one remains confined within the pages of text books on classical capitalist economics. But is the state of affairs so simple? Perhaps not.
Revisiting the basics
Before we proceed further, let us go back to the basics once. There are stated to be four main drivers behind inflation. Among them, one is cost-push inflation, or the decrease in the aggregate supply of goods and services stemming from an increase in the cost of production. The other one is demand-pull inflation, or the increase in aggregate demand, categorized by the four sections of the macroeconomy: households, business, governments, and foreign buyers. The two other contributing factors include an increase in the money supply of an economy and a decrease in the demand for money. Let us ignore the latter two for avoiding academic discourse and focus on the former two.
Aggregate supply is the total volume of goods and services produced by an economy at a given price level. When the aggregate supply of goods and services decreases because of an increase in production costs, it results in cost-push inflation. Cost-push inflation means prices have been ‘‘pushed up’’ by increases in the costs of any of the four factors of production—labour, capital, land, or entrepreneurship—when companies are already running at full production capacity. Companies cannot maintain profit margins by producing the same amounts of goods and services when their costs are higher and their productivity is maximized. So, to keep the profit margin intact, they jack up price. Since, higher price might make the produced goods unaffordable for many buyers, the companies, to put it straight, the industrialists or corporate houses, reduce production and sell less quantity of goods at higher price. And to hold back rise in production cost, they simply retrench workers (euphemistically called downsizing or right sizing) and seek to modernize the productive tools like machines with sophisticated technologies. Any rise in the cost of raw materials is also offset against less production and truncated manpower. For example, the petrol-diesel-LPG-Kerosene prices are now piercing the sky. The government, in shrewd camouflage, is attributing the reason to rise in crude oil prices in the international market while remaining silent about the hefty tax and cess imposed on these items. Now, in the context of understanding inflation, demand for the commodities is remaining the same while the cost of raw material i.e., the crude imported has gone up. So, the profit is secured by the Oil marketing companies by raising the prices albeit with green signal from the government resulting in higher prices of the finished goods, thereby causing inflation. Who is bearing the brunt? Of course, the common people. Who are benefitting? The giant oil corporates. It has been reported that operating profit in the retail oil segment of Reliance Industries owned by the richest Indian monopolist, Mukesh Ambani, rose to Rs 3,584 crore, a gain of 16.3% year on year (YOY) basis in the January-March 2022 quarter. In fact, Reliance has become the first Indian company to take in $100 billion (Rs 7,60,000 crores) in annual revenue. (Economic Times 07-05-22)
Now we turn to other side of inflation. When demand for produced goods exceeds what the economy can produce, the four sectors (households, business, governments, and foreign buyers) compete to purchase a limited amount of goods and services. That means the buyers ‘‘bid prices up’’ again and cause inflation. This excessive demand, also referred to as ‘‘too much money chasing too few goods,’’ usually occurs in an expanding economy. J M Keynes, the well-known bourgeois economist, held that an increase in aggregate demand is caused by a rise in employment, as companies need to hire more people to increase their output. Is it the situation in India now? Are the households flushed with so much of money as to bid up prices? Just the reverse. There is a steady fall in their purchasing power because of rising unemployment and huge job loss. The peasants are also deprived of remunerative prices of their produce so much so as to be forced to distress sale. 83 crore Indians are reportedly surviving on less than Rs 20 a day. The strength of India’s middle class has shrunk to 6.6 crores, down a third from a pre-pandemic estimate of 9.9 crores. Moreover, the number of poor people in the country went up by 7.5 crores. (India Today-19-03-21) Again, if a government reduces individual taxes, some middle class or higher middle-class households might have a bit more disposable income in their pockets. This, in turn, might spur consumer spending a bit and boost demand to that limited extent. Has the BJP government reduced taxes? Again, the answer is, no. In fact, when the BJP Finance Minister after the last budget was asked why the government did not reduce individual tax to give relief to people, she instead sought credit for not increasing direct tax. (The Mint, 01-02-22) Is there any increase in government spending for public welfare either? Facts say no. Rather allocation towards MNREGA, the 100-day work scheme for rural areas, has been reduced from Rs 98,000 crores to Rs 73,000 crores. Subsidies are being slashed drastically. Another factor which is stated to trigger inflation is the depreciation of currency exchange rates. If value of Rupee falls, say, with reference to US dollars, then an importer of Indian goods would pay less price in dollars. As a result, exports would increase because of rise in overall level of demand, assuming supply cannot keep up with increased demand. What is the scenario in this regard? Indian rupee is falling every day with respect to US dollar. The rupee fell to a lifetime low of 77.58 per dollar as on 9 May last. (Economic Times 09-05-22) But what is the picture of the export-import front? India’s merchandise exports rose to a record $418 billion in the Financial Year 2022. (Economic Times, 04-04-22). But India’s merchandise import in April 2021-March 2022 was USD 610.22 billion, an increase of 54.71% over USD 394.44 billion in April 2020-March 2021. (Government press release dated March 2022) So, imports far outpace export meaning outflow of foreign currency is more than inflow.
Fallacious argument about demand-pulled inflation
In such a backdrop, RBI has increased interest rates on the pretext of lower money supply as if inflation is triggered by increasing demand. Now, the question is, as seen from what has been discussed above, there is hardly any demand (here demand is to be understood as purchasing power of the people and not the demand of their life) because of relentless plummeting of income level of the common masses. Business houses do not go for buying consumer goods. Government too is not spending enough to generate remunerative engagement of people at large to augment their buying power. Moreover, supply is curtailed by hoarding so that price does not fall. Pulses are reported to be rotting in FCI godowns. Potatoes are rotting outside cold storages because of shortage of storing capacity. Niti Ayog admits that 40% of fruits and vegetables produced in the country go waste simply because of non-distribution. (ABP 12-05-20). So, the bogey of supply constraint is a bunkum. Moreover, appetite for Indian goods overseas and consequential flow of foreign fund is far less than what India is spending in foreign currency to import. It is also fictional that hitherto common people were spending more and now they would tend to save more and reduce spending. Then, how could RBI claim that the inflation is demand-pulled and not cost-based?
While expressing concern for this upward revision of interest rates, the economists-columnists confined within the four walls of capitalism also apprehend that enhanced cost of borrowing would entail rise in EMIs (Equated Monthly Instalments) on loans and hence demand for loans would decline. How many people compared to the entire population avail bank loans for buying cars or other utility items? So, increasing EMI might cause some hardship to the fresh borrowers but that cannot be a major concern. Actually, the contention of the aforesaid groups of economists-commentators is the higher interest to be paid by the corporate borrowers whose profit margin would then go down. That is what they are miffed with. First of all, even when interest was progressively going down, there has not been any significant offtake of loans by the corporates for productive investment. Secondly, proceeds of many loans have been used by them for other purposes including speculation and takeover of other companies, both domestic and foreign. Thirdly, rising NPAs (defaulted loans) indicate how public money has virtually been embezzled. So, demand for loan would dry up for a miniscule rise in interest does not stand as a sound proposition. The only silver-lining is that bank depositors including retired persons might get something extra from their savings if the interests are increased by the banks in response to the RBI’s declared monetary policy.
What prompted RBI to announce miniscule rise in interest rate
So, the cardinal point is what prompted the RBI to do it? Simple answer is that in view of the growing unsolvable crisis of capitalism, the formulators of monetary policy in the Apex bank are in double whammy. If they reduce interest, people’s income from bank deposits would fall entailing dip in their buying capacity and consequential plummeting of demand. Greater ease of getting loans would further stimulate credit offtakes for non-productive purpose, fuel speculation and enlarge the basket of defaulted loans which, in turn, would impel the government to bail out the suffering banks by granting assistance from public exchequer and thereby deplete government treasury. On the other hand, if they increase interest rate, there is row over enhancement of borrowing cost mostly from the quarters of industrial barons and corporate behemoths. The BJP Finance Minister has found an explanation. She said it has been necessitated as a part of global synchronization-a term she could hardly define save and except pointing figure at international developments for economic catastrophe in the country. But then what other alibi could she provide knowing full well that capitalist economy of the country is endemic of the system that abets flourishment and prosperity of the ruling bourgeoisie by squeezing even the last drop of blood of the toiling millions. The policy jinx RBI is struck with is nothing but an inevitability of immense and hourly unsolvable crisis of capitalism.
India is in a state of stagflation
Coming back to the question of inflation, it is, as shown above, is not ‘demand-pulled’ but is indeed ‘cost-pushed’ aggravated by large scale corruption, hoarding, black marketing, speculation and price manipulation that decadent moribund system generates, aids and nurtures. Again, this cost-pulled inflation needs a special qualification. It is profit maximization urge-pulled inflation-a truth the Indian ruling quarters and their subservient academicians cleverly conceal. Pertinent to mention that India is in a state of stagflation, a combination of stagnation and inflation which is a feature of dying capitalism and cannot be explained based on the prescripts of classical bourgeois economics which say inflation takes place when people have more money to buy goods and hence there is a spurt in demand entailing more production whereas recession or stagnation of produced goods occurs when there is low or no demand indicating no money in the hands of the buyers and so fall in prices or deflation opposite of inflation. But then how could surging inflation and growing stagnation be in cohabitation? Seeing in the context of monetary policy, if interest rate is brought down, it is supposed to stimulate investment. But much to the discomfort of the bourgeois planners, such does not happen as in a shrinking market (meaning starved of demand because of dip in people’s buying power), the monopolists and multi-nationals feel no urge for productive investment. In fact, private investment has increased around only 3% in last 20 years. (ABP-04-05-22) The very claim of increase in investment is a misnomer. If one invested Rs 80 out of an income of Rs 1000 earlier and now invests Rs 100 out of an increased income of Rs 2000, the rate of investment dips and does not increase. Rightly commented editorial of a leading daily that ‘‘Monetary authorities have also rightly pointed to the impact that the increases in domestic pump prices of petroleum products have had on inflation. The onus is now squarely on the RBI and fiscal authorities to move in lockstep and take every possible measure including cutting fuel taxes to keep inflation from running away and landing the economy in stagflation.’’ (The Hindu-05-05-22)
What can give some relief to tormented people
And due to continuous raise in price by the business houses to preserve profit maximization coupled with pro-monopolist fiscal policies (like overdose of taxes and cess on goods and reckless tax concessions and waivers to the corporate sector) even the produced goods find no takers and remain stockpiled. Thus, capitalism is caught in its own web. RBI too is enmeshed in that. So, the quackeries like tickling with interest rates would bring no succour. People can get some relief only if they are provided with regular remunerative means of earning which would augment their buying power.
The Government needs to retrace from the path of reckless privatization, take initiative to set up labour-intensive industries under its aegis, tax the rich at higher rate and refrain from showing any mercy to the economic offenders, loan defaulters and price manipulators. Oil prices must be brought down by reducing tax components. Black-marketing hoarding and such other grave offences have to be dealt with a strong hand. There is no other alternative. Suffering people should also close their rank in voicing this demand unitedly and in an organized way to exert pressure on the government and make it yield to their demands.