By Suvodeep Rakshit
The debate is wide open on the quantum of the next rate hike by RBI on December 7 — 25 bps or 50 bps or 35 bps. At this juncture of the RBI’s hiking cycle, the quantum of hike while responding to the current macroeconomic scenario should also retain a degree of flexibility for the future. A 35 bps hike to take repo rate to 6.25% seems apposite given that global central banks are moving towards slowing their rate hikes’ pace, domestic inflation has been coming off though risks remain on the higher side, and risks of global demand slowdown. The RBI could enter into a phase of wait-and-watch after the December policy to assess the impact of rate hikes on the domestic economy.
The RBI’s September policy meeting minutes had indicated a distinct divide between the external and internal members of the RBI MPC. Dr Varma had explicitly called for a pause in the December meeting while Dr Goyal had indicated that the space for further rate hikes was closing. While much of the concern and demand for rate hikes emanated from the external sector, global commodity prices as well as threat of ultra-aggressive rate hikes by the Fed has faded. The Fed has indicated that its pace of hikes will come off providing some respite to EM FX and rates. However, risk of holding rates higher-for-longer remains on the cards.
Domestic inflation should evolve as expected in the September policy—above 6% till around February 2023 and dipping towards 4.5-5.5% range from March and through FY2024 (we estimate an average of 5.3% in FY2024 after 6.7% in FY2023). Core inflation remains sticky and will likely remain around the 6% handle for most part of FY2023-24. There are some upside risks from food prices, especially cereals prices, but will be more dependent on government’s policies rather than monetary policy. There are uncertainties on energy prices and how much will be passed on to domestic inflation. However, as estimated one-year ahead inflation stands now, with repo rate at, say, 6.25% after the December policy, real interest rate would be around 100-125 bps. Domestic policy rate needs to move in line with domestic inflation-growth dynamics from hereon, rather in lockstep with global central bank actions. This also implies part of the macroeconomic adjustments needs to be through a weaker exchange rate too.
The prospects for growth, especially from the global side, are also under some risk. Growth outlook remains a mixed bag for the advanced economies’ with UK likely in a recession, Euro Area likely to be in recession over the next couple of quarters, and US possibly by mid-CY2023. China’s growth prospects remain uncertain though it has brightened to some extent with some early signs of relaxation in the zero-covid policy. For now, the expectations seem to lean towards a shallow global slowdown. Within this somber global growth outlook, India’s growth outlook remains relatively steady with our estimated real GDP growth of 6.8% in FY2023 and 6% in FY2024. The RBI is a bit more upbeat with 7% and 6.5% in FY2023 and FY2024, respectively. However, if global growth were to slow down faster/longer than expected, India’s growth prospects would be under risk.
A 35 bps hike would effectively signal a departure from the rapid pace of hikes seen over the past three policies and one off-cycle policy. It also would signal that the RBI remains cautious of the macro environment. In terms of the guidance, they could signal to be data dependent from here on which could imply a wait-and-watch from the next policy onwards while retaining the flexibility of smaller rate hikes, if needed.
(Suvodeep Rakshit, Senior Economist, Kotak Institutional Equities. The views and opinion expressed in the column are personal and do not necessarily reflect the opinion of the organisation or the Kotak Group.)