THE BLOG

RBI On Wait And Watch Mode, But Rate Cut Likely In August

08/06/2016 12:08 PM IST | Updated 15/07/2016 8:27 AM IST
NEW! HIGHLIGHT AND SHARE
Highlight text to share via Facebook and Twitter
ASSOCIATED PRESS
An Indian policeman stands guard with a sniffer dog at the entrance of the Reserve Bank of India (RBI) headquarters in Mumbai, India. The RBI on Tuesday cut its key interest rate by a quarter of a percentage point and hinted at other measures to boost liquidity and spur economic growth. (AP Photo/Rafiq Maqbool)

In the Reserve Bank of India's second bimonthly policy review, RBI governor Raghuram Rajan decided to adopt a cautious stance and maintain the status quo despite a compelling case to cut interest rates amidst a favourable monsoon outlook, consumer price index (CPI) inflation in line with the RBI's projected path, the government's progressive reforms, fiscal consolidation and the need to nurture growth.

After the 25 bps monetary easing, along with the introduction of a phased transition towards a neutral liquidity framework in the month of April, the RBI has decided to hold its horses vis-à-vis rate cut amidst the emergence of some upside pressure on inflation.

While commodity prices, especially oil, continue to remain somewhat benign, there has been a significant reversal in prices since February. As a result, the central bank has now introduced an upside bias to its retail inflation forecast, even though the forecast of 5% inflation by end of FY17 has been retained. In addition, the recent firming up of oil prices could also add some upside risk to inflation.

I foresee the RBI's cautious stance giving way to accommodative actions in August, on the back of favourable monsoon outcomes and sustained acceleration of government reforms.

However, I believe both inflationary and disinflationary forces will act upon CPI in the coming months. While there is pressure on food prices currently, it is expected to wither away with the anticipated favourable monsoon. The government's announcement of moderate increase in MSPs along with various supply management measures should further help to keep a lid on food inflation.

I foresee the RBI's cautious stance giving way to accommodative actions in August, on the back of favourable monsoon outcomes and sustained acceleration of government reforms.

It appears that the uncertainties on the global horizon with US Fed policy overhang and the UK Brexit vote tipped the RBI's decision in favour of a status quo. With its accommodative stance still in place, I now see a high probability of a rate cut in August by at least 50 bps, with the interim period expected to provide clarity on the progress of the south-west monsoon and its impact on food prices; clearness on the Fed's stance on its monetary policy and the likelihood of the next rate hike and also the final decision on Brexit.

I now see a high probability of a rate cut in August by at least 50 bps...

The central bank has acknowledged the gradual improvement in growth momentum, driven by consumption demand. It expects this momentum to gain traction in FY17 on the back of a normal monsoon, implementation of the 7th Central Pay Commission, and higher public outlays for capital expenditure (led by roads and railways). Hence, the projection for FY17 GVA growth was retained at 7.6% with risks evenly balanced.

Going forward, I have reason to believe that India's GDP is set to cross 8.1% in FY17 on the back of visible pickup in consumption demand for cement, oil, electricity etc. along with stronger than anticipated Q4FY16 corporate earnings. A quicker economic turnaround is thus getting supported by growth drivers becoming broad based. These growth impulses will be catalyzed when the RBI goes in for its next round of rate easing.

Borrowing a phrase from the IMF chief Christine Lagarde, we are fortunate to be at a juncture when India is indeed a "bright spot" in the global economy, and is enjoying unprecedented confidence and conviction. I am confident that the government will continue to drive growth by accelerating reforms and timely capital infusions into constrained public sector banks. The subdued appetite for fresh investment will be likely offset by higher public sector capital expenditure and a sustained improvement in consumption demand.

Like Us On Facebook |
Follow Us On Twitter |
Contact HuffPost India

Also see on HuffPost:

Beautiful Black Cats

More On This Topic