With bond yields having spurted by about 75 basis points in the last two months, and banks starting to increase loan rates, money has become costlier even without the Reserve Bank of India (RBI) changing its stance. Wednesday’s much-expected status quo on the repo and a neutral stance, therefore, left stocks and bonds virtually unmoved. The yield on the benchmark 10-year bond fell 5 basis points (bps) to end the session at 7.69%. Most economists believe the RBI will keep rates on hold. But with corporate bond rates up about 50 bps in the last four months, it’s clear borrowers will have to start paying more. The RBI raised its inflation forecast for Q4FY18 to 5.1%, calling for vigilance. It also lowered the gross value added (GVA) for growth estimates for 2017-18 to 6.6% and projected a growth of 7.2% for 2018-19.
Sonal Varma, MD and chief economist, Nomura, said she expects the RBI to leave rates on hold through 2018 because of an ample real rate cushion. “The statements suggest that while the RBI is growing more confident on the growth recovery, its inflationary concerns are also rising. However, it is waiting for more clarity on the costing details of the new MSP (minimum support price) mechanism to ascertain the impact on inflation,” Varma said. RBI governor Urjit Patel noted that current data trends did not necessitate a change in the rate or the stance. The inflation outlook was clouded, he said by several factors such as the fiscal slippage, the second-round effects of housing rent allowance (HRA) hikes in the states, a rise in crude oil prices, possible impact of proposed MSP hikes, the impact of the hikes in customs duties and a potential loss of investor confidence following the normalisation of monetary policy by some major advanced economies. “The deterioration in public finances risks crowding out private financing and investment,” Patel said. For 2018-19, inflation as measured by the Consumer Price Index is estimated in the range of 5.1-5.6% in the first half of the fiscal, including diminishing statistical HRA impact of central government employees, and 4.5-4.6% in the second half, with risks tilted to the upside.
The central bank marginally revised downwards its GVA growth estimates for 2017-18 to 6.6% from 6.7% earlier. For 2018-19, the RBI projected GVA growth at 7.2% — in the range of 7.3- 7.4% in the first half of the fiscal and 7.1-7.2% in the second half — with risks evenly balanced. “The process of recapitalisation of public sector banks has got under way. Large distressed borrowers are being referenced for resolution under the Insolvency and Bankruptcy Code (IBC). This should improve credit flows further and create demand for fresh investment,” the RBI said.
Patel pointed out that taxation on capital in India is from several sources and that would also have an impact on investments. “You have a corporate tax rate, you have a dividend distribution tax rate, for dividend income above Rs 10 lakh you have a marginal tax rate… You have a securities transaction tax and you have capital gains tax. So there are five taxes on capital and that would also have an impact on investment and savings decisions,” he added. While five members of the monetary policy committee — Chetan Ghate, Pami Dua, Ravindra Dholakia, Viral Acharya and Urjit Patel — voted in favour of the monetary policy decision, Michael Patra voted for an increase in the policy rate of 25 bps.
According to Aditi Nayar, principal economist, Icra, despite the upward revision in the inflation forecast for Q4FY18 and concerns regarding growing inflation risks amid the crystallisation of the fiscal slippage, the tone of the policy was not as hawkish as expected, given the comment that the nascent recovery needs to be carefully nurtured. “In our view, the committee would prefer to wait for additional data and is unlikely to tighten rates in the immediate term, which should help to contain G-sec yields to some extent,” Nayar said.