3 reasons why RBI went against the wind and kept repo rate unchanged
NEW DELHI: The Reserve Bank of India (RBI) on Wednesday surprised financial markets by keeping the policy rate unchanged at 6.25 per cent at its fifth bimonthly policy review. This was against a consensus forecast of a 25 basis points rate cut.
Analysts on Dalal Street attributed RBI’s decision to maintain status quo on money policy to three major reasons:
Inflation: The central bank noted that prices of wheat, gram and sugar have been firming up and showed concerns over the recent decision by the Opec bloc to cut crude oil output from January. RBI said due to base effect, inflation rate may reverse and turn unfavourable in December and February.
“If the usual winter moderation in food prices does not materialise due to the disruptions, food inflation pressures could re-emerge. Furthermore, CPI inflation excluding food and fuel has been resistant to downward impulses and could set a floor to headline inflation. With the Opec agreement to cut production, crude prices may firm up in the coming months,” it said.
Keki Mistry, VC & CEO, HDFC, said any central bank would consider rate cut either if it believes the move is going to push consumption forward because people will borrow more money and then use that for consumption, or if it believes a rate cut will facilitate investment.
“The way I see it, capacity utilisation in India still has not gone to the levels one would like to see before you see a big thrust on investments. In that sense, cutting rates now may not have helped,” Mistry said
Wait and watch: RBI said it was on a wait and watch mode as impact of the cash ban was still playing out. The central bank expects short-run disruptions in economic activity in cash-intensive sectors such as retail trade, hotels & restaurants and transportation.
However, it was confident of a progressive increase in the circulation of new currency notes and believes the usage of non-cash-based payment instruments would surge.
“It is appropriate to look through the transitory but unclear effects of the withdrawal of SBNs while setting the monetary policy stance. On balance, therefore, it is prudent to wait and watch how these factors play out and impinge upon the outlook,” the central bank said.
CEA Arvind Subramanian said that the RBI decision was important in containing liquidity in the system.
Global uncertainty: RBI felt rising turbulence in financial markets globally and volatility in crude oil prices going forward could put the inflation target for Q4 of FY17 at risk.
World trade is beginning to emerge out of a trough that bottomed out in July-August and is showing signs of stabilising, RBI said.
“Inflation has ticked up in some advanced economies, though well below target, and is easing in several emerging market economies. Expectations of reflationary fiscal policies in the US, Japan and China, and the waning of downward pressures on emerging market economies in recession are tempered by still-prevalent political risks in the euro area and the UK, emerging geopolitical risks and the spectre of financial market volatility,” the central bank said.
RBI, meanwhile, took heart from the fact that global growth picked up modestly in the second half of 2016, after weakening in the first half.
“The only plausible explanation seems to be global factors. Maybe RBI wants to look at the Fed rate behaviour. Post that, it may want to take a call. We will have to actually see and listen to what RBI has to say about this contradicting factors between lower growth, lower inflation through consumption destruction vis-à-vis higher inflation expectation,” said Nilesh Shah, MD at Kotak AMC.
Murthy Nagarajan, Head of Fixed Income at Quantum Mutual Fund, said by February, RBI will have greater clarity on the global situation such as the Fed rate hike and Donald Trump’s policies and on India’s fiscal deficit for FY2017-18. “That will allow it to take a more balanced view,” Nagarajan said.