RBI’s change of stance to neutral provides further policy flexibility

Published: February 8, 2019 3:32 AM

On growth, the RBI continues to sound optimistic, in contrast to our assessment that weak global growth, the lagged impact of tighter financial conditions and domestic political uncertainty will trigger a cyclical slowdown. Interestingly, the MPC also notes that “actual output has inched lower than potential”

RBI, Monetary Policy Committee, Shaktikanta Das, rbi policy rate, Inflation, oil pricesThe RBI lowered its inflation projection to 2.8% y-o-y in Q4FY19 (year ending March; from 2.7-3.2% for H2FY19 previously).

Sonal Varma & Aurodeep Nandi

At the first policy meeting of the new Reserve Bank of India (RBI) governor, Shaktikanta Das, the Monetary Policy Committee (MPC) voted 4-2 in favour of reducing the policy rate by 25 bps to 6.25% and voted unanimously to change its policy stance back to “neutral” from “calibrated tightening”. While the change of stance was expected, the rate cut was unexpected by both consensus and us. Dr Chetan Ghate and Dr. Acharya dissented against the cut.

Inflation revised down: The RBI lowered its inflation projection to 2.8% y-o-y in Q4FY19 (year ending March; from 2.7-3.2% for H2FY19 previously). For FY20, it projects inflation at 3.2-3.4% in H1 (April-September) versus 3.8-4.2% earlier, and 3.9% in Q3; with risks broadly balanced. This revision reflects lower food and oil prices, and the RBI’s assessment that the recent spikes in core inflation have been largely idiosyncratic.

Also read| RBI Monetary Policy: RBI cuts repo rate by 25 bps, changes policy stance to neutral

Growth projections still rosy: The RBI has sided with the government on its assessment of FY19 GDP growth at 7.2% (down from 7.4% previously), and projects a robust 7.4% in FY20, with 7.2-7.4% in H1 (7.5% previously), 7.5% in Q3 and risks evenly balanced. It has, nevertheless, flagged risks around global growth headwinds.

Nomura’s view: The MPC’s U-turn – from ‘calibrated tightening’ in December (which effectively rules out a rate cut) to a decision to cut rates in February – is a surprise. We expected a rate cut later this year, but the front-ended delivery was a surprise, even relative to our expectations. The RBI has seen through the expansionary Budget, as well as sticky core inflation, and viewed the recent softness in inflation prints as “open[ing] up space for policy action”.

On growth, the RBI continues to sound optimistic, in contrast to our assessment that weak global growth, the lagged impact of tighter financial conditions and domestic political uncertainty will trigger a cyclical slowdown. Interestingly, the MPC also notes that “actual output has inched lower than potential”. We are reviewing our call on the policy rate trajectory, but the governor’s statement that “there is room to act” clearly suggests this is not a one and
done cut.

Sonal Varma is MD & chief India economist at Nomura and Aurodeep Nandi is India economist at Nomura

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