Analysis: Unconventional Policy When Inflation High? India’s RBI is Doing This

By Sophia Rodrigues

Central banks typically resort to Unconventional Monetary Policy Tools when inflation rate is low and policy rate is at the Effective Lower Bound.

But one central bank is using the so-called unconventional measures when inflation is high, and the policy rate is above ELB and definitely well above zero.

Less than two months after introducing the unconventional tool Operation Twist, the Reserve Bank of India announced on Thursday it will soon offer liquidity to banks via Long-term Repo Operation (LTRO).

The RBI said it will offer LTRO for one-year and three-year term at the policy repo rate and for a total of one trillion rupees.

Governor Shaktikanta Das said the move is aimed at improving monetary transmission by reducing banks’ cost of funds and thus encouraging them to lend at lower rate. By doing this, Das is showing how a central bank can take steps to promote growth even when it is facing hurdle from high inflation rate.

Das said Operation Twist – selling short-end government bonds and buying long-end – is also done with the same aim. By buying long-dated governments via auction, the RBI attempts to push down their yield and thus improve borrowing costs for corporates as their loans are benchmarked to bond yields.

The RBI also announced another measure that would fall in the category of targeted lending where it is offering incentive to banks making certain retail loans and loans to small and medium enterprises. This incentive is in the form for exemption to maintain cash reserve ratio which is a cost to banks, and an exemption would thus lower their cost of funds.

The RBI’s recent moves are unprecedented but not surprising for someone of Das’ calibre. Ever since he took over reins in December 2018, he has displayed a rare ability to engage with stakeholders and to quickly implement policy measures when needed.

The RBI’s recent announcement is akin to what the European Central Bank did in 2011 when it announced Long-term Refinancing Operation (LTRO) with maturity of three years. Back then, many called it Quantitative Easing or a form of Quantitative Easing.

But unlike the RBI, ECB conducted LTRO when its policy rate was close to zero.


At the policy meeting Thursday, the RBI left the policy repo rate at 5.15%, in line with expectation. The inflation-targeting central bank has no room to lower policy rate now with consumer price index inflation running at 7.35% in December, well above the upper bound of the 2% to 6% range, and 4% mid-point.

Governor Das, however, maintained the easing bias and stressed there is policy space to lower the rate as soon as inflation slows from the current high pace on a durable basis.