Raghuram Rajan’s last monetary policy review today; 3 reasons why RBI should go for rate cut

By: | Updated: August 9, 2016 10:00 AM

RBI monetary policy review: Although most of the analysts are expecting Raghuram Rajan to hold the key interest rates, Bank of America Merrill Lynch expects him to take a dovish stand and slash the rates by 25 basis points.

Raghuram Rajan's last monetary policy review tomorrow; 3 reasons why RBI should go for rate cutReserve Bank of India Governor Raghuram Rajan is scheduled to present his last monetary policy review on Tuesday before his tenure ends next month. (Photo: Reuters)

Reserve Bank of India Governor Raghuram Rajan is scheduled to present his last monetary policy review on Tuesday before his tenure ends next month. Although most of the analysts are expecting him to hold the key interest rates, Bank of America Merrill Lynch expects him to take a dovish stand and slash the rates by 25 basis points. It said,” An RBI rate cut signal tomorrow will likely rapidly lead to lending rate cuts with RBI Open market operations(OMO) finally extinguishing the money market deficit. If the RBI waits till October, it would get too close to the industrial busy season for banks to reduce rates. The passage of GST legislation should also satisfy the RBI’s pre-condition of ‘reforms’ for easing. At the same time, it may postpone demand beyond April as consumers expect lower pricing.”

The investment bank has listed three strong reasons why it may go for a rate cut

1. A good monsoon (3% above normal) should pull down agflation and inflation. CPI inflation may ease to 5.1 per cent by March – close to the 5 per cent RBI’s target. Food inflation has already started coming off in August.

2. High lending rates continue to hurt loan demand and delay recovery. Not surprisingly, growth has clocked a dismal 5 per cent in old GDP series in FY16, well below our estimated potential of 7-7.5 per cent. Blaming poor credit off-take on deteriorating bank asset quality is pretty much saying the same thing. Is it not but natural that loans should turn non-performing, if real lending rates ruling at a 20-year high in a global recession.

3. Time is running out with the October-March busy industrial season round the corner. An RBI rate cut now will quickly transmit to bank lending rate cuts with RBI OMO finally extinguishing the money market deficit. The present easy money market conditions are largely seasonal. With the RBI calling off OMO again, the money market will likely slip into deficit in the busy season. This would make it far harder for banks to cut rates.

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