The monetary policy committee (MPC) of the Reserve Bank of India (RBI) is widely expected to hike the repo rate by 50 basis points (bps) to 5.9% at its meeting from September 28 to 30, amid the competing pulls of high inflation and a slack in growth.
Most economists and policy watchers believe the US Federal Reserve’s move to raise rates by 75 bps last week will force the RBI’s hand at a time when the rupee is caught in a bear grip, having crossed the 81-to-the-dollar level.
Kaushik Das, chief economist, India and South Asia, Deutsche Bank, said opinion is divided on whether the Indian central bank should hike the rate by 35 or 50 bps in its September policy. “While there are merits in favour of a 35-bps hike, we think the hawkish 75-bps hike from the Fed this week along with guidance of a higher terminal Fed funds rate of around 4.6% (DB forecast is 4.9%), would ultimately lead the MPC to vote in favour of a 50 bps hike on September 30, continuing with the theme of front loading of rate hikes.”
Das observed that the rupee breaching the 80-level despite RBI’s proactive interventions opens up room for further depreciation in the coming months. That, in turn, could be inflationary to an extent and would merit a 50-bps rate hike at this juncture, he said.
The RBI has sold forex reserves worth $92 billion over the last one year and the 12-month forward-looking import cover is now below nine months, according to a September 22 report by Goldman Sachs.
The markets will keenly watch the central bank commentary on the rupee’s trajectory and its likely role in the MPC’s decision. Madan Sabnavis, chief economist, Bank of Baroda (BoB), said the recent downhill movement of the rupee following the Fed’s announcement has made it one of the more unsatisfactory currencies, based on the response to the dollar strengthening in the global market. “This piece will also be actively discussed in the deliberations, as when deciding on interest rates, the currency part of the story cannot be left out,” he said.
Some economists expect the MPC to change its stance to neutral in the upcoming meeting.
The RBI’s position on banking system liquidity will be another area of interest, with liquidity having moved into deficit mode last week for the first time in three years. Rahul Bajoria, chief India economist, Barclays, said the removal of more than `7 trillion from the banking system in the current financial year has helped temper aggregate demand, even though the size of the current liquidity deficit appears driven by seasonal factors.
“From our perspective, the next logical step after implementing an aggressive rate tightening cycle is to ensure its pass-through, hence, we see limited room for the RBI to inject liquidity, despite material fund outflows through the balance of payments channel,” Bajoria said.
However, BoB’s Sabnavis is hopeful that the RBI will issue a calendar for open market operations, along with variable repo auctions. “As we expect the stance to change to neutral, reintroduction of GSAPs may be skipped to avoid sending contrary signals,” Sabnavis said.