The Reserve Bank of India (RBI) has lowered its inflation projection for Q1 2018 to 4.5% y-o-y from 5.1% previously, but it remains cautious on continuing inflation risks.
The monetary policy committee (MPC) voted 5-1 in favour of leaving the repo rate at 6.00%, in line with consensus and our expectations. As in the February policy review, the lone dissenter was Michael Patra, who voted for a 25 basis points (bps) rate hike. The stated policy stance was unchanged at “neutral”. The Reserve Bank of India (RBI) has lowered its inflation projection for Q1 2018 to 4.5% y-o-y from 5.1% previously, but it remains cautious on continuing inflation risks. It flagged concerns about the absence of more clarity on minimum support prices (MSP), the monsoon outturn, the volatility of crude oil prices, the impact of state government-led house rent allowance (HRA) increases and evidence of rising inflation expectations. The RBI shifted to projecting GDP (versus GVA growth earlier) this time. It sees GDP growth strengthening to 7.4% in FY19 from 6.6% in FY18 with growth at 7.3-7.4% in H1 and 7.3-7.6% in H2 – with risks evenly balanced. In a positive surprise, the RBI lowered its inflation projection including the HRA impact for central government employees: to 4.7-5.1% in H1 FY19 (versus 5.1-5.6% earlier) and to 4.4% in H2 (vs. 4.5- 4.6% earlier) with risks tilted to the upside. The status quo on rates and stance is in line with expectations, but the downward revision to inflation forecasts is a positive surprise and suggests no imminent policy tightening. For now, the RBI remains in wait-and-see mode. In our base case, we expect the repo rate to be left unchanged throughout 2018 as recent banking sector developments have raised concerns about the sustainability of the growth upcycle and underlying inflation remains around 4.0-4.5%, on our estimates, providing a sufficient real rate cushion. However, coming policy meetings are still prone to higher risk of a shift in the policy status quo owing to strong Q1 GDP growth data (due in end-May), higher headline/core inflation (in Q2) and the impending decision on MSP policies (around end-May/June).
The writer is MD and chief economist, Nomura