There are various reasons for why inflation levels are likely to meet their glide path target of 8% in FY15. Most have to do with government policy. The decision to hike the minimum support price (MSP) by just 1.5%, for instance, underscores the governments commitment to helping RBI fight inflationin the past, high inflation years have been high MSP-growth ones. Deciding to sell 10 million tonnes of wheat through open market salesand the amount can easily be doubledalso suggests the same thing, as does the delisting of fruits and veggies from the APMC in markets like Delhi; creating alternate mandis, of course, will take time. Equally important, with the UPA sticking to its fiscal deficit target for FY14, and the NDA deciding to stick to the Interim Budgets FY15 target, another source of excess demand appears on hold. All of which suggest the central bank should cut policy rates tomorrow.
Events of the last few weeks suggest RBI may be inclined to do so for a variety of reasons, not least because the government seems on the same page when it comes to inflation-controlreining in MSPs, conducting open market sales of excess stock, keeping deficits under control and starting to clear stuck projects to get more productive capacity into the system. Equally important, with the economy continuing to remain weakcredit growth remains a muted sub-14%demand triggers are needed. Which is why, over the past few weeks, RBI has tried to find different ways to ease liquidity and lower rates in a stealthy fashiondoing away with SLR/CRR and priority sector requirements for bonds raised by banks to fund infrastructure requirements is one such. Indeed, there are such few takers for liquidity, as SBI chairperson Arundhati Bhattacharya said recently, even AA-rated corporates are being offered loans at base rates by banks. The exceptionally strong US GDP growth is also something RBI needs to factor in since, while FII flows continue to look strong, it is difficult to predict when things will change in response to strengthening US yields. While the normal reaction would be to hike rates to keep the interest differential unchanged to attract debt funds, cutting rates will give a boost to equity flows which are coming in looking for growth opportunities.