Why Tighter Indian Monetary Policy Harms Middle Class Instead of Stopping inflation!

A very interesting article with credible figures on how the bank credit works in India and how it is distributed. Like TN Ninan, I am not in favor of tethering the large corps to domestic finance.. but I guess we need a little more creative set of methods to stop inflation.. specially when we have two of the best finance and economic minds in India in the government with Dr. Singh and Chidambaram!

….North Block and Mint Road are busy trying to make bank credit more expensive and less easy to get, while at the same time encouraging companies to borrow more money overseas.

The first set of steps is meant to tighten the screw, so as to reduce money supply in the market; the second does the opposite by allowing companies to borrow overseas and bring that money into the country. The first is designed to slow down the business tempo, the second facilitates it. So what exactly do the government and RBI want?

The numbers are interesting. The ever-resourceful B G Shirsat of the Business Standard Research Bureau has worked out the money borrowed from the commercial banks by 2,569 companies listed on the domestic stock exchanges; the total is a little over Rs 1,70,000 crore.

And what is the money borrowed overseas by way of external commercial borrowings? The total works out to $32 billion, which is about Rs 1,44,000 crore. The numbers are uncannily close. It is possible that the two numbers should not be directly compared with each other (the overseas borrowings could be partly by banks, which then lend to their domestic customers).

But it does make one other comparison interesting, which is with the figure for total bank credit — around Rs 20,00,000 crore. In other words, the listed companies account for less than 9 per cent of total domestic bank credit. So when you read those reports of the big corporate names borrowing impressive billions overseas, you know exactly what they are doing — escaping the RBI’s net.

That raises the question — where does 91 per cent of domestic bank credit go? The answer is that it goes to smaller, unlisted firms; to the vaunted millions of middle-class consumers who are buying cars and houses on borrowed funds; to the farmers and small businesses who have no option but to go to the banks.

Even among the listed firms, much of the external borrowing is by the biggest of the lot, because it is they who have the size and expertise and reputation to go offshore and get funds. The smaller of the listed companies (and the median listed company, ranked by size, has a sales turnover of less than Rs 100 crore) are borrowing money purely domestically.

So who gets hit by the Reserve Bank tightening monetary policy, and by higher interest rates? Why, the small and medium businesses, retail customers and all the chaps clubbed under the ‘priority sector’ category: farmers, truck owners, traders, petty shopkeepers, and such.

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