The Reserve Bank of India is expected to cut interest rates next week to help revive demand, which has taken a hit from Prime Minister Narendra Modi’s currency crackdown, a Reuters poll showed. Modi shocked the country by launching the demonetization drive in early November to combat tax evasion and corruption, banning high-value bank notes, wiping out over 86 percent of the cash in circulation overnight.
The move caused major disruptions in Asia’s third-largest economy, where consumer spending accounts for over half of the country’s output. Farmers, households and even companies struggled to meet their daily needs. While the government insists the economic impact will be temporary, some independent estimates suggest it could be bigger and longer lasting. As a result, India is at risk of losing its tag as the fastest growing major country in the world.
Fears of a sharper slowdown, coupled with low inflation, led to loud calls for the RBI to cut rates in December.But the central bank surprised many market watchers by keeping rates unchanged at 6.25 percent, as it waited to gauge the full effects of demonetization.
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India’s top finance ministry economist played down the hit to the economy on Tuesday, a day ahead of the federal budget, saying the country’s growth rate will slow by only up to half a percentage point. But analysts say more support may be needed.
The median in the latest Reuters poll of 46 economists predicted the RBI would cut its benchmark repo rate by 25 basis points (bps) to 6.00 percent at the conclusion of its Feb. 7-8 meeting. The central bank is expected to cut by another 25 bps in the July-September quarter, taking the repo rate to 5.75 percent. It is then expected to hold rates steady until at least the middle of next year.
“Growth needs to find support to meet the near-term risk on account of the knock-on impact of demonetization,” said Shubhada Rao, chief economist at Yes Bank. “In the current year we do see inflation undershooting RBI’s 5 percent indicated target almost by 50 basis points or even lower. So, while there is room to support growth from RBI’s monetary policy, we could see a 25 basis point rate cut.”
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The International Monetary Fund in its latest report cut its India growth forecast for the current fiscal year by a full point to 6.6 percent. A separate Reuters poll showed the economy lost momentum in the final three months of 2016.
Finance Minister Arun Jaitley will likely unveil on Wednesday a budget that aims to boost economic growth and ease the pain of the cash crunch, with measures that include reducing personal income and corporate tax along with higher public investment.