RBI has done well not to tighten policy and retain an accommodative stance. The dovish tone may have come as a surprise, but Governor Shaktikanta Das is absolutely right to support the recovery which needs to be sustainable and broad-based. Indeed, the central bank’s growth forecast for 2022-23 of 7.8% in 2022-23, is underwhelming even after accounting for base effects.
It is reassuring to see the central bank in command of the situation and sending out a clear message that it is prepared to be accommodative as long as needed. Some would argue RBI has little choice but to humour the bond markets. But there is the not so small matter of credibility and performance; it is not easy, in these very difficult and challenging times, to deliver. If the last three years are anything to go by, however, Das has succeeded.
As Deputy Governor Michael Patra observed, there is no hurry to tighten policy in the manner in which the rest of the world is doing because the nature of the inflation, in India, is very different from that elsewhere. That is a valid argument—perhaps not when everything’s going well, but certainly now when the economy has been so sluggish and there is a chance it will remain so. There was perhaps room for a 15-basis-points hike in the reverse repo rate to signal the central bank is on top of the inflation problem and that normalisation is here. But, April would be as good a time to tweak policy rates because that is when the government’s mammoth borrowing programme will begin. and one would have a better sense of the size of the fiscal deficit for FY22
Also, the inflation projection of 4.5% for FY23 does seem somewhat under-estimated. RBI would, no doubt, have done its homework and baked in the pass-through from the rise in auto fuel prices expected once the elections are over, as also a myriad other factors. However, even if the forecast turns out to be 50 bps lower, it would nonetheless be well-within the 6% ceiling and should not throw the markets into disarray. Right now, it is important that interest rates stay as low as possible to support businesses and the government’s borrowing. It may be a calculated risk, but one well worth taking because, going by the data for January, the recovery is losing steam.
The concern about the huge supply of paper is legitimate. The Centre alone will borrow a net Rs 11.2 lakh crore next year, and should loan growth pick up sharply, banks might not have the appetite for gilts. While there was no specific commentary on how the central banks plans to push through the borrowing plan, room has been created for foreign portfolio investors to invest more in the bond markets. It is possible banks will soon have more flexibility on how they value their bond portfolios and would be willing to add to their portfolios. Again, the government seems to have taken on some of the borrowing on behalf of PSUs, and to that extent, the demand from the broader government would be smaller. Also, though the Governor didn’t say it in so many words, the back-channelling between North Block and Mint Road appears to be going well, suggesting there will be some give-and-take when needed.
Going by the cancellation of recent auctions, the central bank appears to be uncomfortable with the yield crossing 7%. Yields have retraced around 20 bps from the highs of 6.95% but could move up again in April. Unless there is a severe impact on the currency following the actions of the US Fed, we should see fewer hikes in FY23 than anticipated. For now, borrowers can continue to cash in on the low loan rates.