What’s going on in RBI governor Raghuram Rajan’s mind? Well, besides the recent buzz on whether Prime Minister Narendra Modi-led government will give him a second term as RBI governor, the big question has to be – to cut or not to cut rates in the central bank’s monetary policy review on June 7?
The monetary policy review comes at a time when Rajan has been criticised by BJP leader Subramanian Swamy for not cutting interest rates in the past. Swamy has even written to PM Modi, requesting the latter to terminate Rajan’s contract as the RBI governor. Whether Modi will give Rajan a second term is anybody’s guess, but Swamy is not alone in expressing displeasure over Rajan’s hawkish stance on rates. India Inc has been clamouring for more rate cuts for some time now.
However, Rajan finds himself faced with the prospect of rising inflation once again. Economic data however is not as bad as it was a few years ago, when inflation was in double digits and growth was way below India’s economic potential.
If the latest GDP data is anything to go by, India’s economy grew at a stellar 7.9% in the last quarter of FY16 and several signs of recovery in the form of better corporate results will add to Rajan’s comfort. Consumer Price Inflation (CPI) on the other hand accelerated to 5.39 per cent in April, bucking the recent slowing trend. Add to that the fact that the Seventh Pay Commission Hike and rising international crude oil prices will further stoke inflationary pressures in the economy?
Does it then make sense for Rajan to refrain from cutting rates in the monetary policy review? Sahil Kapoor, Chief Market Strategist at Edelweiss Securities tells FE Online, “My opinion is that Rajan will not cut rates in the upcoming policy review, but will wait for the monsoon to pan out. He has already done a lot to inject liquidity into the economy, constant open market operations (OMOs) are being conducted. Rajan would ideally want to see the effect of his move on the liquidity front, but I believe he will continue with his dovish stance.”
Agrees DK Srivastava, Chief Policy Advisor at EY India. “The latest GDP data indicates that the growth is in a comfortable zone. Inflation on the other hand is showing an upward trend, and that may stop the RBI governor from easing his monetary policy stance to cut rates further. Ideally he would like to watch if the monsoon is normal as forecast and agricultural production is robust,” Srivastava says.
What about the rest of the financial year? Is there any hope of more rate cuts? “If these two factors (monsoon and agricultural production) come in favourably, then Rajan may be in a position to cut repo rate by 25 basis points in the Augusts review. However, even then he would be cautious about cutting key rates in a big way because international oil prices are rising and there is possibility of the US Federal Reserve of hiking rates. A Fed rate hike will put pressure on the exchange rate, so going forward rate cuts are expected to be marginal in nature,” Srivastava feels.
Kapoor of Edelweiss Securities is more optimistic. “Going forward there may be room for a marginal rate cut of 25 basis points in the August review. We expect the total rate cut for FY17 to be in the range of 50 to 100 bps. He has already cut rates by 25 bps in April, so to that effect more rate cuts are expected in the current financial year,” he concludes.