The Reserve Bank of India (RBI) is likely to take a “more dovish” stance in its upcoming monetary policy review on December 2 and may go in for a cut repo rate in February, according to a British brokerage house report.
“While the December 2 policy should turn more dovish, RBI Governor Raghuram Rajan may want to await further clarity on the inflation peak-off,” Bank of America-Merrill Lynch (BofA-ML) said in a report.
“We are increasingly confident about our call for a repo rate cut in February,” it added.
The report sees RBI achieving its inflation target of 8 per cent by January 2015 and 6 per cent by January 2016.
Retail inflation or CPI eased to 6.46 per cent in September, the lowest since January 2012, from 7.73 per cent in August.
However, RBI Deputy Governor H R Khan, had recently said that ‘inflation still has a long way to go’ and cautioned against early celebrations.
BofA-ML said that the case for lower rates looks increasingly compelling.
“September growth will likely slow to around 5 per cent from 5.7 per cent last quarter, buttressing our view that recovery will need lending rate cuts,” the report said.
It said that a case for rate cut also arises as imported inflation is moderating, with oil prices stabilising on Fed rate hike expectations and the rupee holding at 58-62 levels due to RBI recouping foreign exchange reserves.
The report estimates CPI inflation to drop to 5.7 per cent in October from 6.5 per cent in September.
BofAML said economists expect the first Fed rate hike in September against an earlier expectation in June.
“It is another matter that we believe the RBI should be able to cut even if the Fed hikes, so long as it recoups foreign exchange reserves to stabilise rupee expectations,” the report said.
BofA-ML said it was not concerned about April-September fiscal deficit climbing to 82.6 per cent of Budget estimates from 76 per cent last year, as the government has a buffer in the form of a Rs 1,284 billion surplus with the RBI (as of March 31) to protect net borrowing.
According to the report, RBI is now relatively comfortable with lower government bond yields.
“This supports our standing call that the 10 year government bond (g-sec) should settle at 8-8.25 per cent. After all, lending rates cannot fall unless the 10 year G-Sec rate itself eases, as banks typically price their prime rate 400 basis points above the benchmark risk less rate,” the report said.