RBI policy more neutral than hawkish

Updated: Aug 6 2014, 07:21am hrs
In the third bi-monthly monetary policy meeting for 2014-15, the RBI decided to stay pat and kept repo rate and CRR unchanged at 8% and 4%, respectively. Concurrently, to free additional funds for lending and to support growth in the economy, SLR was brought down by 50 bps to 22%. Further, debt ceiling under the HTM category (held-to-maturity) was eased from 24.5% to 24.0% of NDTL (net demand and time liability).

Shedding its relatively gravid dovishness from Junes policy statement, RBI decided to let go the comment on easing interest rates if disinflation...is faster than currently anticipated...it will provide headroom for an easing... With the first target of 8% CPI in sight, RBI this time laid greater emphasis on the 6% inflation target to be achieved by January-2016 and reiterated its reliance on government actions to ease supply side inadequacies.

In my view, RBI took a meticulous and a pragmatic approach. Even though the CPI inflation data for past two months printed lower than expected and IIP and core data too was upbeat, it was very well acknowledged in the policy statement, that base effect, partly attributed to such favourable readings.

Moreover, with possibility of below-average monsoon looming and upside risk on inflation from higher food prices and pass-through of administered price increases, cutting the policy rate would have been premature at this juncture. Add to that, an uncertain outlook for global crude prices due to geopolitical tensions should have kept RBI if not overly-worried, at least in a notably cautious mode.

Next move: More likely down than up

Conceding that overall risks to 8% inflation target are more balanced than in June and that inflation is currently following the suggested glide path, RBIs monetary policy stance continues to remain neutral as of now.

However, by outlining risks to its medium term target of 6.0% by Jan-16, RBI has pushed expectation of market participants from one end of spectrum to another, i.e., from anticipating rate declines to a rate hike. In my view, an increase in policy rate remains uncalled for amid weak growth conditions and would only nip the recent improvement in some of the lead indicators.

As such, for now, RBI is likely to be in a wait-and-watch mode and would stay put at its next policy on September 30. Going forward, we attach a greater probability to rate cut as next rate action. Display of a strong commitment by the government towards correcting structural bottlenecks on the supply side to ease price pressures, will provide the cushion to the RBI for easing rates. Having said that, RBI would nonetheless likely stay on hold, at least till the time monsoon related distortion gets normalised and inflation moves sustainably lower towards 7% and below.

In my opinion, ideal time, thus for a rate cut would be H1FY15 as lagged impact of tight monetary policy and improvement in fiscal balance would start manifesting in the durable disinflationary process. A coordinated commitment between fiscal and monetary policies to keep inflation under check will bolster overall macroeconomic fundamentals of the Indian economy.

Shubhada M Rao

The writer is senior president & chief economist, YES Bank