According to an ET poll with 16 respondents, the six-member rate-setting panel is seen maintaining the benchmark policy repo rate at 6.50% during the June 6-8 meeting, marking the second consecutive instance of it holding off on policy tightening. The respondents were unanimous in their expectation.
Following a surge in India’s inflation due to hardening global commodity prices brought about by the Ukraine war, the MPC raised the repo rate by a total of 250 basis points – or 2.5 percentage points – between May 2022 and February 2023. It left the rates unchanged in the April meeting. Latest data showed that Consumer Price Index inflation was at an eighteen-month low of 4.7% in April, well below 7.8% a year earlier. The MPC’s target for CPI inflation is 4% while its tolerance band for the price gauge is 2-6%.
“…strong GDP numbers also provide RBI with the headroom to extend their pause in June,” DBS Bank India senior economist Radhika Rao said.
Surplus Liquidity
“While the MPC might vote unanimously to keep rates unchanged, the decision to extend the stance could see a split as the doves would prefer to close the door on further tightening as inflation beats a retreat,” Rao said.
HSBC’s economists expect the RBI to keep the rates unchanged for the rest of the year and cut the repo rate in the first quarter of 2024.
Stance
The MPC’s stance, which is currently one of “withdrawal of accommodation”, has been a matter of debate over the last few months, with external member Jayanth Varma expressing reservations about its validity.
Most of the respondents to the ET poll were of the view that the MPC would retain the current stance this week.
The debate surrounding the stance emerges primarily from what constitutes ‘withdrawal’.
Judging by the metric of real interest rates – which are adjusted for inflation – accommodation may have been sufficiently withdrawn, economists said. The MPC had reduced the repo rate by 115 bps to a record low of 4%, to help economic growth during the pandemic.
“Based on real rates argument – whether headline or core – the MPC can easily justify changing the stance to neutral in the June policy from ‘withdrawal of accommodation’. And we think such a change is justified at this stage,” Deutsche Bank, India & South Asia, chief economist Kaushik Das said.
However, what has made the MPC’s decision more complicated is a recent surge in surplus liquidity in the banking system, a phenomenon that represents accommodative conditions.
A larger-than-budgeted surplus dividend transfer from the RBI to the government and deposits of recently withdrawn Rs 2,000 notes with banks have improved the liquidity landscape for the next few months. The higher cash surplus with banks has in turn brought down money market rates and therefore borrowing costs in the economy.
“The RBI has been adding liquidity to the system via its forex operations and its step to recall high denomination notes should also boost bank deposits and liquidity in H1 of this fiscal. Thus, the CB (central bank) by its actions (whether intended or not) is adding and not withdrawing liquidity. Accordingly, we think the time has come to dispense with the current stance and mint a new stance,” ICICI Securities Primary Dealership head of research A Prasanna wrote. Deutsche Bank’s Das too flagged recent liquidity improvements as a factor that could prompt the RBI to stick with the current stance.
Inflation Signals
While some economists expect the MPC to mildly lower its inflation projections for the first quarter of this fiscal year, the rate-setting panel may be wary of signalling easier policy as risks to inflation from an El Nino effect on monsoon rains and global uncertainties persist.
Moreover, suggestions of a more relaxed monetary policy could lead to a sharp decline in sovereign bond yields as markets would likely immediately start reflecting expectations of rate cuts. At a time when the US may not be done with rate hikes, a narrower rate differential could pose risks to the stability of the rupee.
“If the MPC switches to neutral, that will lead to a much further easing of these financial conditions…the other factor is that the transmission (of rate hikes) is still not complete,” Axis Bank’s chief economist Saugata Bhattacharya said.
“Some credit conditions will tighten but financial conditions are expected to remain very easy and that probably is one more argument which argues strongly against a switch to neutral at this point in time,” he said.
For all the latest world News Click Here
