RBI CUTS RATES – MARKET MERELY YAWNS!

By Ruma Dubey

Damned if you do and damned if you don’t!

That in short is how the market reacts to RBI policies. If RBI had not announced a 25 bps cut, the markets would have tanked, expressing deep anguish. And now that RBI has announced a 25 bps rate cut, the market felt, “what’s the big deal?” and citing this as a “no surprise” policy, ended the day in the red.

RBI did do what was widely expected; indeed no surprises here. A quick look at the highlights:

Reduced repo rate under the liquidity adjustment facility (LAF) by 25 basis points from 6.25 per cent to 6.0 per cent with immediate effect.

Consequently, the reverse repo rate under the LAF stands adjusted to 5.75 per cent.

The marginal standing facility (MSF) rate and the Bank Rate stands now at 6.25 per cent.

The decision of the MPC is consistent with a neutral stance of monetary policy in consonance with the objective of achieving the medium-term target for consumer price index (CPI) inflation of 4 per cent within a band of +/- 2 per cent, while supporting growth.

The RBI is extremely positive about the agriculture sector. It has stated that rainfall across India, till yesterday 1^st August was above the long period average (LPA) and 84% of the country’s geographical area received excess to normal precipitation. The good news -  Kharif sowing has progressed at a pace higher than last year’s, with full-season sowing nearly complete for sugarcane, jute and soyabean. Sowing of cotton and coarse cereals has exceeded last year’s levels but for oilseeds, it is lagging. Overall, these developments should help achieve the crop production targets for 2017-18 set by the Ministry of Agriculture at a higher level than the peak attained in the previous year. Meanwhile, procurement operations in respect of rice and wheat during the rabi marketing season have been stepped up to record levels – 36.1 million tonnes in April-June 2017 – and stocks have risen to 1.5 times the buffer norm for the quarter ending September.

But on the manufacturing front, the RBI sounded not muted than optimistic. It is no new news that industrial performance has weakened in April-May 2017. Excess inventories of coal and near stagnant output of crude oil and refinery products combined to slow down mining activity. For electricity generation, deficiency of demand seems to remain a binding constraint. In terms of uses, the output of consumer non-durables accelerated and underlined the resilience of rural demand. It was overwhelmed, however, by contraction in consumer durables – indicative of still sluggish urban demand – and in capital goods, which points to continuing retrenchment of capital formation in the economy. The weakness in the capex cycle was also evident in the number of new investment announcements falling to a 12-year low in Q1, the lack of traction in the implementation of stalled projects, deceleration in the output of infrastructure goods, and the ongoing deleveraging in the corporate sector. The output of core industries was also dragged down by contraction in electricity, coal and fertiliser production in June, owing to excess inventory and tepid demand. On the positive side, natural gas recorded an uptick in production after a prolonged decline and steel output remained strong.

The 78th round of the Reserve Bank’s industrial outlook survey (IOS) revealed a waning of optimism in Q2 about demand conditions across parameters, and especially on capacity utilisation, profit margins and employment. The manufacturing purchasing managers’ index (PMI) moderated sequentially to a four-month low in June and the future output index also eased marginally. In July, the PMI declined into the contraction zone with a decrease in new orders and a deterioration in business conditions, reflecting inter alia the roll out of the GST; however, both new export orders and the future output index rose, reflecting optimism in the outlook.

On the inflation front, RBI did acknowledge that there are now visible signs  of the usual seasonal price spikes, even if with a delay and especially in respect of tomatoes, onions and milk.  Administered prices of LPG and kerosene are set to rise with the calibrated reduction in subsidy.

 Implementation of farm loan waivers by States may result in possible fiscal slippages and undermine the quality of public spending, entailing inflationary spillovers. Moreover, the timing of the States’ implementation of the salary and allowances award is critical – it is not factored into the baseline projection in view of lack of information on their plans. If States choose to implement salary and allowance increases similar to the Centre in the current financial year, headline inflation could rise by an additional estimated 100 basis points above the baseline over 18-24 months.

RBI has stated that high frequency indicators suggest that price pressures are building up in vegetables and animal proteins in the near months. There are, however, some moderating forces at work. First, the second successive normal monsoon coupled with effective supply management measures may keep food inflation under check. Second, if the general moderation of price increases in CPI excluding food and fuel continues, it will contain upside pressures on headline inflation. Third, the international commodity price outlook is fairly stable at the current juncture.

On the state of the economy, the MPC is of the view that there is an urgent need to reinvigorate private investment, remove infrastructure bottlenecks and provide a major thrust to the Pradhan Mantri Awas Yojana for housing needs of all. This hinges on speedier clearance of projects by the States. On their part, the Government and the Reserve Bank are working in close coordination to resolve large stressed corporate borrowers and recapitalise public sector banks within the fiscal deficit target. These efforts should help restart credit flows to the productive sectors as demand revives.

Well, the RBI has painted a very mixed picture – things could get dicey if the Govt does not act now… that’s the message which comes across loud and clear. Its disenchantment with loan waiver is expressed explicitly and it will create NPAs problems but here, politics rules and no one would be paying heed to what the MPC thinks or feels. It remains a mess as far as NPAs are concerned.

The next policy statement in scheduled for 3^rd October and there is no Fed meet in August but the one in September, on 20^th to be more precise, would be very decisive.

For the markets, the policy is over and done with; it is back to earnings and news based, stock specific trading only.