Headline : IMF members delay quota changes, agree to maintain funding
- Members of the International Monetary Fund (IMF) have agreed to maintain its funding at $1 trillion but postponed changes to its voting structure.
Highlights of the deal
- The deal will allow an extension of non-permanent, supplementary sources of funds, such as the New Arrangement to Borrow (NAB) and the bilateral borrowing facility.
- The agreement extended the bilateral borrowing facility by a year —to the end of 2020 — and a potential doubling of the NAB.
- The agreed package will leave IMF quotas (the primary source of IMF funds), which determine voting shares, unchanged. Instead, these will be reviewed before the end of 2023.
About: IMF Quotas and Voting Share:
- An important factor that helps the IMF’s functioning is the quota. This quota is basically money that a member country has to give to the IMF and as per the norms, each member has to subscribe a quota of the IMF.
- For any member country, out of the quota, 25% should be paid in the form of foreign currency or gold (called as reserve tranche or gold tranche) to the Fund.
- The remaining 75% in the form of domestic currency (called as credit tranche).
How the size of quota for each member country is determined:
- When a country joins the IMF, it is assigned an initial quota in the same range as the quotas of existing members that are broadly comparable in economic size and characteristics.
- The IMF uses a quota formula to guide the assessment of a member’s relative position, which depends on its economic importance.
- The current quota formula (applied for 14th quota review) is a weighted average of GDP (weight of 50 percent), openness (30 percent), economic variability (15 percent), and international reserves (5 percent).
- India’s quota is 2.76% and China’s is 6.41%, while the U.S.’s quota is 17.46 %.
Multiple purposes of Quotas:
- Quota subscribed by the members indicates funds provided by the members to the IMF, and hence it constitute to the resource base of the IMF.
- A member country’s loan availability depends upon size of its quota. The amount of financing a member can obtain from the IMF (called as access limit) thus depends upon its quota.
- The size of quota basically determines voting power of a member.
- As per the IMF rules, for an important resolution to be passed, at least 85% of the votes should be secured. This means that the US, with 16.54 % of voting power, enjoys a veto power.
- Thus, a member’s quota indicates basic aspects of its financial and organizational relationship with the Fund.
Review of Quotas:
- Quotas are supposed to be reviewed every five years although these reviews can be delayed — as was the case with the 14th review.
- That process, completed in 2010, needed approval of the U.S. Congress, and it was not closed out till early 2016.
- The review’s outcomes included a doubling of the quota total and a shift in some voting rights to under-represented and emerging market countries.
About: Permanent Resource Base
- Quotas are the IMF’s main source of financing, wherein each member of the IMF is assigned a quota, based broadly on its relative position in the world economy.
- Quotas of each of the IMF’s 189 members increased to a combined SDR 477 billion (about US$668 billion) from about SDR 238.5 billion (about US$334 billion) after the 14th quota review.
About: New Arrangements to Borrow (NAB)
- It is a renewable funding mechanism that has existed since 1998. Through the New Arrangements to Borrow (NAB) a number of member countries and institutions stand ready to lend additional resources to the IMF.
- The NAB constitutes a second line of defense to supplement IMF resources to forestall or cope with an impairment of the international monetary system.
- Concurrent with the quota increases under the 14th Review, the NAB was rolled back from SDR 370 billion to SDR 182 billion in February 2016.
- The activation of NAB requires support from 85% of creditors eligible to vote
About: Bilateral Borrowing Agreements
- The IMF had entered into Bilateral Borrowing Arrangements after the 2008 financial crisis to increase its lending ability. BBAs serve as a third line of defense after quotas and the NAB.
- In 2016, in view of continued uncertainty in the global economy, the membership committed to maintain access to bilateral borrowing, under a revised borrowing framework.
- The initial term was till the end of 2019 extendable for a further year with creditors’ consents.
- Activation of the agreements requires support from 85% of creditors eligible to vote
Criticisms and call for governance reforms at IMF
Domination of developed countries:
- Some IMF members are frustrated with the pace of governance reforms, as the balance of economic and geopolitical power has shifted, becoming more dispersed, particularly with the emergence of China and India.
- Developed countries have been seen to have a more dominant role and control over less developed countries (LDCs).
- The scholarly consensus is that IMF decision-making is not simply technocratic, but also guided by political and economic concerns.
- The United States has historically been openly opposed to losing its “leadership role” at the IMF, and its “ability to shape international norms and practices
- The criticism of the US-and-Europe-dominated IMF has led to what some consider ‘disenfranchising the world’ from the governance of the IMF.
Discrepancy in the calculated and actual quotas:
- While quotas as computed by the above formula are the basic starting point in allocating shares, they serve as guidance rather than as a rigid rule, since the IMF’s Board of Governors has full discretion in decisions about shares.
- There are significant differences between actual and calculated quotas. Notably, for Europe and the euro area, actual quotas are higher than calculated quotas.
- For China, the actual quota, at 6.4 percent, is only about half of the calculated quota.
- Many developing countries are up in arms that this discrepancy in particular merits quick correction.
Over reliance on non-permanent sources of funding:
- Out of the three main financing sources, only one is a permanent feature and there has been an overreliance on non-quota sources of funding.
- This is inconsistent with the IMF’s basic principle that quota subscriptions should be the main source of IMF resources. Hence, the reliance on alternate funding sources should be reduced.
Narrow development concerns:
- The IMF is only one of many international organisations, and it is a generalist institution that deals only with macroeconomic issues, while its core areas of concern in developing countries are very narrow.
- Hence, the IMF should work towards close partnerships with other specialist agencies such as UNICEF, the Food and Agriculture Organization (FAO), and the United Nations Development Program (UNDP).
Headline : Explained: Why interest rates aren’t falling
Context for the article:
- This article explores why, despite significant repo rate cuts by the RBI, the interest rates in the banking system are not falling much.
Rate cuts by the RBI:
- Since February, the Reserve Bank of India (RBI) has aggressively cut the repo rate.
- Repo rate is the interest rate that the RBI charges the banks when it lends them money.
Why does RBI want lower interest rates?
- Since February, India’s economic growth momentum has rapidly decelerated.
- Projections of GDP growth rate have come down from roughly 7.2%-7.5% in February to 5.8%-6.0%.
- There are two key problems in the economy – Consumption and Investment – and a lower interest rate regime is expected to help in resolving both.
- To this end, RBI has been cutting repo rates, especially since overall retail inflation has been well within the RBI’s comfort zone of 4%.
Lower interest rates could revive consumption:
- The main issue is that people are not consuming at a high enough rate.
- Some economists argue that if banks reduce their lending rates, they would also have to reduce their deposit rates (the interest rate banks pay when we park our money with them in a savings bank deposits or a fixed deposit).
- This, in turn, will incentivise people to save less and spend more.
Lower interest rates could revive private investment:
- The other problem in the economy at present is that businesses are not investing in existing or new facilities.
- Part of the reason is also that the interest rate charged on loans is quite high.
- If banks reduce the interest rates on loans, more businesses are likely to be enthused to borrow new loans for investment.
- This is particularly relevant with the recent corporate tax rate cuts done in the hope that it will boost the corporate sector’s profitability and get it thinking of investing more.
The ‘transmission’ of rate cuts by RBI to the banking system is not happening:
- By cutting the repo rate, the RBI has been sending a signal to the rest of the banking system that the lending rates in the system should come down.
- Lending rates are the interest rates that banks charge from their customers.
- This process of repo rate cuts leading to interest rate cuts across the banking system is called “monetary policy transmission”.
- The transmission process in India is quite inefficient:
- For example, between February and August, the RBI cut repo rate by 110 basis points — 100 basis points make a percentage point — from 6.5% to 5.4%.
- But, the interest rate charged by banks on fresh loans that they extended during this period fell by just 29 basis points – that is just 27% of the amount by which the repo rate came down.
To force transmission, RBI is linking bank lending rates to repo rate:
- Concerned by the sluggish transmission, the RBI in October 2019 (after cutting the repo rate by another 25 basis points) took steps to make banks link their lending rates to the repo rate.
- The RBI made it mandatory for all banks to link certain loans to external benchmark rates like Repo Rate, Yields on treasury bills etc.
Only few banks have cut rates:
- For the most part, the banking system has ignored RBI’s signalling and only some banks have reduced lending rates on new loans by 10 basis points.
- In essence, while the RBI has cut its lending rate to the banks by 135 basis points (or 1.35 percentage points) in the nine months since February, the interest rates being charged to the common consumer have come down by only about 40-odd basis points.
Why aren’t interest rates in the banking system coming down?
- The interest rates in the banking system are not coming down despite repo rate cuts by the RBI.
- This is because repo rates have little impact on a bank’s overall cost of funds, and reducing lending rates just because the repo has been cut is not feasible for banks.
Difference between lending and deposit rates allows banks to function:
- For any bank to be viable, there must be a clear difference between the lending rates (interest rates it charges from borrowers on loans it provides) and the deposit rates (interest rate it gives to consumers on deposits it accepts).
- The difference between these two sets of interest rates has to be not only positive but also big enough for the bank to make profits.
Banks can be profitable only if they cut deposit rates also:
- To attract deposits, banks pay a high deposit rate. Such deposits make up almost 80% of all banks’ funds from which they then lend to borrowers.
- Banks borrow only a small fraction under the repo.
- So even sharply reducing the repo rate doesn’t change the overall cost of funds.
- Unless banks reduce their deposit rates, they will not be able to reduce their lending rates.
Why are banks not reducing their deposit rates?
- Others could offer better rates: That’s because if a bank were to reduce its deposit rates, depositors would shift to a rival bank that pays better interest rates or invest in small saving instruments such as public provident fund, Sukanya Samriddhi Yojana etc that pay much higher interest rates.
- Can’t reduce rates immediately: Even if banks wanted to reduce their deposit rates, they can’t always reduce them immediately. This is because 65% of total deposits are “term” deposits (fixed for a certain duration) and take, on an average, up to two years to get repriced at fresh rates.
What hasn’t linking the lending rate to the repo rate worked?
- This is not a viable solution for the banks.
- The banks cannot link their lending to the repo rate because repo doesn’t determine their cost of funds.
- For a repo-linked regime to work, the whole banking system would have to shift to that – in other words, along with banks’ lending rates, their deposit rates too must go up and down with the repo.
- But if such a regime were in place, depositors would have earned 1.10 percentage points less interest rate on their savings account.
Is this problem of weak transmission new?
- As per some experts, this is not a new issue.
- Never even in the past has monetary transmission been better than 50% (that is, only half the rate cuts by RBI were passed through by the banking system).
- The reason for weak transmission, too, has been largely the same.
Why doesn’t this happen in developed countries?
- The slow transmission does not happen in developed countries because the financial system is far more developed and diversified.
- Banks are not burdened to fund everyone:
- Most importantly, the banking system there doesn’t have to bear the burden of providing loans to everyone in the economy – from farmers to small businesses to large businesses, like in India.
- Developed bond market:
- Most demands for big loans are directed towards the corporate bond market – wherein a company floats bonds (or IOUs) and borrows money from the public by paying whatever interest rate the market demands.
- Better grasp of borrowing and lending dynamics:
- Depositors there are not in the habit of getting a fixed interest rate on their savings while expecting a variable interest rate on their loans.
- The savers there are far more willing to take risk and to invest in higher-risk instruments other than bank deposits.
- On the other hand, at the current low levels of per capita income, Indian savers are risk averse and prefer saving in banks.
- Government borrowing does not impact interest rates much:
- The overall borrowing by the public sector – that is the government and government-owned institutions – is not so high so as to drive up the interest rates in the economy, as it happens in India.
Handout 16: – EF6_P1_Census_Health_Edu_Poverty_Batch1
Headline : Electrifying India’s transport Editorial 7th May’19 TimesOfIndia
Rapid urbanization and transport problems:
- India’s urban population will nearly double in the next decade.
- More than half a billion people will live and work in Indian cities.
- Travel within and between cities will grow exponentially.
- This rapid growth poses several social, economic and environmental challenges.
Converting this into opportunities:
- To convert these challenges into opportunities, India needs to prioritise shared and public modes of transportation and turn to new sunrise industries (like electric vehicles) that can help combat pollution, reduce congestion, strengthen energy security and also create jobs.
Initiatives aimed at transforming India’s mobility system:
- Recently, the Union government approved two initiatives:
- Fame-II: The second phase of the Faster Adoption and Manufacturing of Electric Vehicles scheme
- National Mission on Transformative Mobility and Battery Storage
Focus on electrification:
- Both these actions signal India’s commitment to transforming its mobility system, with focus on electrification as the primary technology pathway to achieve this transformation.
- This focus presents India with a powerful opportunity to emerge as a leader in clean, connected and shared mobility solutions, battery manufacturing and renewable energy integration.
- Renewably supplied electricity can deliver long-term, fixed cost power supply for mobility services throughout the economy, and solar energy can become a transportation fuel.
- Energy security: From the perspective of energy security and competitive advantage too, new mobility solutions will reduce oil import costs, lower trade deficits, and limit vulnerability to oil supply disruptions and process shocks.
- Environmental benefits: Shared, connected and clean mobility solutions will deliver a host of environmental benefits, including cleaner air so Indian citizens can breathe more easily.
Future of mobility in India:
- Addressing the Global Mobility Summit, the Indian Prime Minister outlined a vision for the future of mobility in India based on 7Cs.
- These 7 Cs include: Common, Connected, Convenient, Congestion-free, Charged, Clean and Cutting-edge.
Steps to achieve these objectives:
- Focus on shared electric transportation:
- India’s per capita car ownership is quite low with fewer than 20 vehicles per 1,000 persons (5% of the people), as compared to 900 per 1,000 in the US and 800 per 1,000 in Europe.
- India’s low per capita car ownership affords it the chance to pursue a different model from the western world.
- Our emphasis must be on shared, connected and electric transportation.
- Focus on EVs in two and three wheelers segments:
- Two and three wheelers constitute almost 80% of India’s domestic automobile sales.
- India must leverage this and provide impetus to electrification of these two segments to provide size and scale to India’s e-mobility efforts.
- Push public transportation:
- India must push for public transportation to become the preferred mode of travel.
- At present, India has only 1.2 buses per 1,000 people, which is far below the benchmarks of developing nations.
- Only 63 of the 458 Indian cities have a formal city bus system and 15 cities have a bus or rail based mass rapid transport system.
- Public transport must become the core focus area for municipalities and state governments.
- Creating an ecosystem for EVs:
- As we shift from Internal Combustion Engine vehicles (which have 2,000 components) to Electric vehicles (which have 20 components), India must create a unique ecosystem to encourage and ensure Make in India as far as possible.
- This would require measures, including Phased Manufacturing Programme (PMP) across the entire value chain, and an efficient fiscal and tax structure.
- This ecosystem should also be able to attract global OEMs for manufacturing.
- Promote battery manufacturing:
- Batteries account for almost 40% of the total purchase cost of EVs today.
- Domestic battery manufacturing is a massive market opportunity for India to rapidly enable the transition to EVs.
- India has the opportunity to pursue manufacturing of both battery cells and packs while importing only raw materials.
- With this, India can capture nearly 80% of the total economic opportunity.
- New battery technologies, like solid-state lithium ion batteries, sodium ion batteries and silicon-based batteries, are under development.
- India needs to vigorously pursue research and development in these areas and have a clear roadmap for manufacturing on a mega scale.
- Creating charging infrastructure:
- India’s cities must build charging infrastructure to remove worries over the range the EVs can travel.
- The existing network of our marketing oil companies must be fully utilised to ensure charging facilities in urban areas and highways.
- Innovation: India must therefore explore newer models of swapping batteries and pay as you go, and facilitate startups that are innovating and disrupting status quo in mobility.
- Capacity building: Our IITs and engineering institutions must also include courses on new technologies as an essential component of their curriculum.
- Policies by states: States must drive uptake of these solutions by dynamic models of charging a fee for polluting combustion vehicles, while providing rebates on electric vehicles, and tightening norms of fuel efficiency across vehicle segments.
- Forecasts indicate that EVs prices will drop and can reach price parity with ICE vehicles by 2024.
- A recent report by Morgan Stanley has highlighted that half of India’s car fleet will be EVs and half of all miles driven will be on shared platforms by 2040.
- This is on account of rapid spread of digitisation and mobile telephony and low per capita car usage in India.
- This new sunrise area can emerge as the biggest catalyst of clean environment, lower trade deficit and new jobs for India.
GS Paper III: Indian Economy
India has committed to transforming its mobility system, with focus on electrification as the primary technology pathway to achieve this. Suggest steps towards achieving this transformation.
Section : Editorial Analysis
Headline : External affairs ministry sets up Indo-Pacific wing
- In a recent move, India has just set up an Indo-Pacific division in the foreign office, which will integrate the Indian Ocean Rim Association (IORA), Asean region and the Quad to the Indo-Pacific table.
- The US has recently renamed its Pacific Command to the Indo-Pacific Command as it seeks to give teeth to its Indo-Pacific policy.
- In 2018, in Shangri-La Dialogue, PM Modi insisted that a “stable, secure and prosperous Indo-Pacific Region” is an “important pillar” of India’s strategic partnership with the US.
- The new division is intended to give a coherent architecture to the policy, articulated by PM Narendra Modi at the Shangri-La Dialogue in 2018.
About Indian Ocean Rim Association (IORA)
- The Indian Ocean Rim Association (IORA) an international organisation consisting of coastal states bordering the Indian Ocean, with 22 Member States and 9 Dialogue Partners.
- Aim: Strengthening regional cooperation and sustainable development within the Indian Ocean region.
- Headquarters: Ebene, Mauritius
- Objectives :
- To promote sustainable growth and balanced development of the region and member states
- To focus on those areas of economic cooperation which provide maximum opportunities for development, shared interest and mutual benefits
- To promote liberalisation, remove impediments and lower barriers towards a freer and enhanced flow of goods, services, investment, and technology within the Indian Ocean rim.
- Focus Areas:
- Maritime Safety & Security
- Trade & Investment Facilitation
- Fisheries Management
- Disaster Risk Management
- Tourism and Cultural Exchange
- Academic Science and Technology
- Blue Economy
- Women’s economic empowerment
India and IORA
- India is planning to put greater energy to the IORA because the heart of its Indo-Pacific policy is rooted in the Indian Ocean.
- This integrates the blue economy part of the Indian policy with the security part.
About Association of Southeast Asian Nations (ASEAN)
- It is a regional intergovernmental organization comprising ten countries in Southeast Asia, which aims to promote collaboration and cooperation among member states, as well as to advance the interests of the region as a whole, including economic and trade growth.
- Members: Indonesia, Thailand, Singapore, Malaysia, Philippines, Vietnam, Brunei, Cambodia, Myanmar (Burma), Laos
- Headquarters: Jakarta, Indonesia
- It also regularly engages other countries in the Asia-Pacific region and beyond.
India and ASEAN
- In its Indo-Pacific diplomacy, India has repeatedly placed Asean at the centre of its policy.
- Asean is wary of China, US and its allies, preferring to keep the Asean region outside great power politics.
- It is this that India wants to address and engage with Singapore, Vietnam and now Indonesia are key partners in the region for India.
Quadrilateral Security Dialogue (Quad)
- It is an informal grouping of four democracies India, Australia, US and Japan, which was first mooted by Japanese Prime Minister Shinzo Abe in 2007.
- All four nations find a common ground of being the democratic nations and common interests of unhindered maritime trade and security.
Impact of the new division:
- The territorial divisions are crucial for policy making, so the creation of an Indo-Pacific division will re-configure the institutional mental-map to look beyond the Indian Ocean, and think and act “Indo-Pacific”.
Note: The policy will be run by the Ministry of External Affairs, which may move work with the defence ministry running its own Indo-Pacific policy.
Section : International Relation