Fuelled by benign inflation, stable global environment as well as a supportive budget, the Reserve Bank of India (RBI) is likely to cut rates by 25 bps in its monetary policy review today. This will be the third monetary policy announcement after Urjit Patel took over as the RBI governor on September 4 last year.
In a surprise move, the RBI had kept the repo rate unchanged in the fifth bi-monthly monetary policy statement for 2016-17 on December 7, while it had cut the repo rate by 25 bps in the October 4 policy review in 2016, which was the first rate cut by Patel as the Governor. Now, in the backdrop of demonetisation hurting growth, Finance Minister Arun Jaitley cutting the fiscal deficit to 3.2% for next year and the dovish stance adopted by the US Fed, the apex bank is expected to cut rates.
“We are definitely expecting a 25 basis points reduction in the key policy rate — the repo rate — to 6% today when Governor Urjit Patel will unveil his third policy review. Since the last RBI policy, the CPI inflation has been on the downside both in the month of November and December, giving possibilities of meeting the 5% March 2017 CPI target. The RBI had made it quite clear that it will work towards the achievement of the consumer price index inflation at 5 per cent by Q4 of 2016-1017 and the medium-target of 4 per cent within a band of +/- 2 per cent, in sync with growth,” said Rishi Mehra, co-founder and director of Wishfin.
You may also like to watch:
Edelweiss Securities also said in a research report that it expects a 25 bps cut in the repo rate in Wednesday’s monetary policy review. “The domestic macroeconomic backdrop remains one of benign inflation (with CPI likely to undershoot RBI’s indicative trajectory), continued fiscal consolidation (fiscal impulse is modestly negative) and sustained weakness in private capex. At the global level, though uncertainty persists, the situation still offers space as Fed is not in a hurry to raise rates immediately and the USD is showing a weakening bias. Moreover, the INR is also overvalued. This backdrop warrants a 25 bps rate cut,” it said.
Edelweiss said that the macro backdrop of the forthcoming monetary policy review is conducive for continued monetary easing. Inflation remains low and contained at ~3.4%. Moreover, though it will rise in coming months, it will still undershoot RBI’s indicative trajectory. Equally importantly, the government remains committed to continued fiscal consolidation (from 3.5% of GDP in FY17 to 3.2% in FY18) as is amply clear from the recently-presented Union Budget.
What is particularly notable is that the Central government’s aggregate expenditure growth is going to moderate sharply to 6-7% YoY in FY18 compared to 12-14% in the past 2-3 years. Additionally, the fiscal math presented in the Budget is quite credible, which should also be comforting for RBI. As regards growth, the economy is certainly stabilising after the demonetisation shock, but still aggregate demand remains weak with private capex particularly anemic. High frequency indicators such as credit growth, 2-wheeler sales, cement dispatches and even non-durable consumption continue to point towards weak aggregate demand.
You may also like to watch:
In the December policy review, one of the reasons cited by Mint Street to hold the policy rate was Fed’s tightening stance and the associated USD strength. But, since then, the USD has stabilised and, in fact, weakened to some extent. Also, Fed is not in a hurry to raise rates. Perhaps, the next move by Fed could happen around mid-2017. This offers RBI some leeway to cut interest rates.
Overall, “the domestic backdrop clearly calls for continued monetary easing, especially because fiscal impulse to growth remains modestly negative. Admittedly, the international scenario remains a tad uncertain, but we believe it does offer a window of opportunity to RBI to act,” said Edelweiss Securities.
Meanwhile HSBC Securities and Capital Markets also said that it is of the view that the RBI may hold on to the “accommodative stance” and deliver a 25 bps repo rate cut at the 8 February policy meeting on the back of low inflation and a negative output gap.
“We expect the RBI to hold on to the “accommodative stance” on the back of its own admission that investment reacts favourably to policy certainty. It may be a good idea for the central bank to provide some colour on when it intends to get to the 4% inflation target. Until it clarifies its intentions, we are assuming that as long as investment is weak, the RBI will target inflation in the 4-5% range. When investment shows surer signs of a revival, the RBI will move more decisively towards the mid-point of 4%,” it said in a research report.