Just a matter of time since CPI trend is downwards
Given how RBI’s household inflations expectations survey has been so out of whack – while CPI fell from 10.8% in January 2013 to 8.8% in January 2014 and 4.4% in November, the expectations survey has a December inflation target of 14.6% – you would think the central bank would have junked it by now. Yet, while cutting repo rates, finally, by 25bps, RBI invokes the expectations survey which, miraculously, seems to have righted itself somewhat – ‘expectations have eased to single digits’, RBI’s press release on the rate cut says, ‘for the first time since September 2009’. But this is not the time to cavil. What’s important is that with RBI of the view inflation rates are on their way down due to a combination of various factors such as low demand and a changed global outlook for commodities, it is only a matter of time before banks make significant cuts to their base rates. Certainly, all banks will have to convene their Alcos (asset-liability committee) to examine the impact on spreads, but most have been cutting rates for certain type of deposits for a while and wholesale money has also got cheaper. Which means, as RBI cuts rates – most are betting on a 75-100bps cut by April 2016 – banks will follow suit. While RBI’s ‘central tendency’ for March 2015 inflation was 7.75% in October 2014, the central bank cut this to 6% in December and the latest press release says ‘on current policy settings, inflation is likely to be below 6 per cent by January 2016’.
The important thing now is to see how significant rate cuts affect demand for loans and economic activity. Given the lack of project pipelines for most banks, it is unlikely a 25bps rate cut, assuming banks pass it on completely, will spur investments as these have been held up for a variety of reasons, from slow economic growth to hugely stressed promoters. What a cut in the base rates will do, however, is to provide immediate relief to debt-stressed corporates, paving the way for them to invest in the future. The relief to consumer spending will be faster since, while consumer confidence has improved, spending patterns have not kept pace – some of this will get addressed by lower interest rates, though the bulk of change will have to wait till jobs creation picks up, and that cannot improve till IIP remains in the 3% range. The good thing, however, as Crisil pointed out recently, is that the growth-inflation mix has begun to improve and, on a heat map, India looks a lot better placed with, after 2 years of sub-5% and 1 year of sub-6% growth, India could grow at 6.3% in FY16; after over 4 years, inflation looks under control while the fiscal deficit and CAD have been looking better for around two years already. India is a long way from home, but the good news is that it is on its way there – a whole lot of investment that doesn’t look viable at current rates of interest may begin to make sense if rates are 100bps lower within the next 12-15 months.