Policy stalemate to continue: RBI Policy Comments by Mr. Amar Ambani, Head of Research, India Infoline Ltd. (IIFL)

Amar AmbaniComments on RBI Policy by Mr. Amar Ambani, Head of Research, India Infoline Ltd. (IIFL)

‘Policy stalemate to continue’

  • In line with market expectations, RBI left the repo rate and CRR unchanged at 7.25% and 4% respectively. The MSF rate was also left untouched at 300 bps above the repo rate.
  • Although the current growth-inflation dynamics are unarguably supportive of easing stance, RBI’s caution and pause are driven by structurally high CAD and heightened risks around its financing amidst hardening US bond yields.
  • The central bank re-emphasized that it remains ready to act proactively to manage risks to macro-financial stability and thereby to the currency. It states that recent liquidity tightening measures will be rolled back in a calibrated manner as stability is restored; thereby indicating that reversal of these steps is unlikely in the near-term. The policy strongly urges the Government to promptly institute structural measures to bring the CAD down to sustainable levels.
  • We see monetary policy status-quo continuing till the next policy at least (on September 18) based on likelihood of sustained pressure on the rupee and CAD due to firm oil prices, weak exports, inadequate reform response by the government and higher US bond yields. So incremental policy rate reduction is likely to be back-ended in the current fiscal and could be limited to 50-75bps despite extremely supportive growth-inflation dynamics during the remainder of the year.
  • In our view, cost of borrowings for commercial banks from RBI’s LAF window and intra-bank/CD route would remain elevated for the next few months. As deposits mobilization has been improving and credit demand weakening, banks may not be required to raise short-term FD rates. Consequently, we do not expect upward revision in Base Rates of banks.
  • Though headline inflation has moderated to below 5%, the retail inflation has remained at an elevated level of near 10% due to stubborn food inflation. Above average monsoon is expected to ebb food inflation somewhat in the medium term. However, recent steep currency depreciation and upward revisions in fuel prices pose upside risks to both wholesale and consumer price inflation.
  • Aggregate demand continues to be weak with deceleration in consumption and investment. Industrial growth remains subdued with supply-side bottlenecks constraining output of core industries. Service sector growth continues to moderate as suggest by concurrent and lead indicators. The only bright spot is an expected pick-up in agricultural growth on account of strong progress of monsoon. Due to persistent weakness in industrial and service sector activity, the GDP growth projection for FY14 has been revised downwards from 5.7% to 5.5%.