Inflation will continue to dictate EMIs as no repo rate change likely

Written by George Mathew | Mumbai | Updated: Jun 2 2014, 17:14pm hrs
InflationSince July 2013, the policy repo rate was hiked by 75 bps in three steps. (Thinkstock)
When Reserve Bank of India Governor Raghuram Rajan unveils the next bi-monthly monetary policy on Tuesday, the central banks intentions and signals will be scrutinised by the new government at the Centre much more closely than the borrowers who have been waiting for a low interest regime for the last several years.

While analysts and bankers expect the central bank to hold the rates at the current level, whats being keenly awaited is whether the RBI will tone down its hawkish stance. In his April policy review, Rajan kept the rates steady and indicated that if inflation continues along the intended glide path, further policy tightening in the near term is not anticipated at this juncture. Rajan then said it was appropriate to hold the policy rate, while allowing the rate increases undertaken during September 2013 through January 2014 to work their way through the economy.

The RBI last hiked the repo rate by 25 bps to 8 per cent on January 28, 2014, on account of upside risks to inflation, to anchor inflation expectation and to contain second round effects. The move was intended to set the economy on the disinflationary path as recommended by the Urjit Patel Committee. Since July 2013, the policy repo rate was hiked by 75 bps in three steps.

Vijayan S, MD, DBS Bank, said, We expect the RBI will keep the benchmark repo rate unchanged at 8 per cent at the next monetary policy review. Even though the retail inflation has eased from 9.5 per cent in FY14 to 8.6 per cent at this point of time, the RBI will keep a close eye on inflation figures before considering any changes in the rates. Rajan and the new government have clearly mentioned that keeping inflation in check is going to be the stance taken by the central bank, Vijayan said.

According to Punjab National Bank chairman and MD KR Kamath, between the task of bringing down inflation and reducing the interest rates, the former has to be addressed first and that is very clear from the recent statements of the new government and the RBI. In this context, I expect the RBI to maintain status quo on interest rates in the ensuing credit policy, Kamath said.

The RBI may wait for the new government to announce the Budget before taking its view on interest rates. The RBI may consider the governments reforms on the fiscal front. If policy rates are kept steady, we dont expect any increase in lending rates in the near future, said an official of a private bank.

CUSTOMERS MAY HAVE TO WAIT FOR LOWER RATES

Borrowers who have been paying high interest rates on their home, auto and personal loans for the last several years may have to wait some more time for the rates to fall. The high returns in India have even prompted some non-resident Indians to borrow in some countries where lending rates are in the region of 2 per cent and send it to India for investment in real estate and fixed deposits of Indian banks.

Senior bankers dont expect lending rates to come down overnight. But when the economy improves, the banking sector will also pick up and non-performing assets will also come down, they say. That may not be enough.

According to Kamath, lower interest rates will depend on a fall in inflation. Over a period of time depending upon the success on inflation front, the RBI may work on bringing down the interest rate. I also expect there will be a boost for the banks as the economy will recover and NPA will start falling, Kamath said.

High interest rates have already dampened the demand. Given the current inflation-growth levels, when can a borrower see his monthly EMI on home loans coming down It wont happen overnight but it is a matter of time it will happen and benefit the customers, said the senior official of another nationalised bank.

However, most bankers dont expect lending rates to harden. No it will not rise. For most customers the rates should be slightly better, as banks cost of raising wholesale funds has come down due to improved sentiment at home and abroad, Vijayan of DBS Bank said.

In fact, yields on government securities and corporate bonds have come down in the last on month, thus bringing down the upward pressure on interest rates. If yields remain low, it will bring down the governments borrowing costs which in turn will ease the pressure on rates.

While many bankers expect the rate to remain steady, one section thinks rates will eventually rise in the coming months. This could be bad news from customers who are eager for a downward revision in lending rates.

Indranil Pan, chief economist, Kotak Mahindra Bank, expects the RBI to raise policy rates by 50 bps in the second half of 2014. The RBI has de facto moved to an inflation target with a glide path of 8 per cent by January 2015, and 6 per cent by January 2016. To buttress credibility, we think the RBI is more likely to hike again than remain on hold. If a poor monsoon puts upward pressures on food prices, then that would strengthen the case for the RBI to act to reduce inflationary expectations and prevent second round effects, he said.

That said, borrowers will need to take a close look at retail inflation and also the risks to headline inflation that could emerge from the food side out of poor monsoon and any demand led inflation from the policy side of the new government.