RBI TAKES THE MIDDLE PATH – MAINTAINS STATUS QUO

By Ruma Dubey

The message which has come across today from the policy – we do not know if the rates are to be lowered or raised; let the banks decide while we will take the neutral stance of status quo, putting the onus on the banks.

The RBI has stated, “the current state of the economy underscores the need to revive private investment, restore banking sector health and remove infrastructural bottlenecks. Monetary policy can play a more effective role only when these factors are in place. Premature action at this stage risks disruptive policy reversals later and the loss of credibility. Accordingly, the MPC decided to keep the policy rate unchanged with a neutral stance and remain watchful of incoming data.”

Its outlook is dovish especially because it has cut inflation targets, leaving room for expectation of rate cut in August. We cannot help but wonder if the Governor is being overly cautious; the RBI has stated time and again that the outlook is very blurred and its eyes like always are only on inflation. The RBI has either chosen not to look at growth or feels that it is nothing to get perturbed about, yet. The message which comes across is that the RBI is being extremely defensive and wants to wait and watch to see some more data – this is not about global commodity prices but more about the transitory impact of demonetization.

Rate cut would have been good news for the market but look at it like this – if a 50bps rate cut had come, we had nothing to look forward to in this year but today’s dovish outlook on inflation keeps the hope going for some more time. Some analysts are expecting an interim policy with a rate cut in July!

The good thing which emerged from the ensuing Press Conference is that RBI is indeed working to stand independent. The MPC was invited by the Finance Ministry before the policy announcements but the Governor stated that all members declined and this showed a lot of spunk, maintaining its autonomy and not getting cowered down by the Govt.

Once again we wish though that the RBI had come out strongly on various Govt’s announcing gargantuan farm loan waivers, putting more stress on the already stressed banks.

The policy highlights:

• Repo rate under the liquidity adjustment facility (LAF) unchanged at 6.25 per cent.
• Reverse repo rate under the LAF remains at 6.0 per cent
• Marginal Standing Facility (MSF) rate and the Bank Rate at 6.50 per cent
• CRR remains unchanged at 4 per cent.
• SLR cut by 50 bps to 20%, effective 24th June; HTM requirement for banks left unchanged
• Maturity, all-in-cost ceiling norms for masala bonds revised
• Projection of real GVA (gross value added) growth for FY18 has accordingly been revised 10 bps downwards from the April 2017 projection to 7.3 percent, with risks evenly balanced.
• 82.6% of the economy has been remonetized
• 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.
• Industrial outlook survey and the PMIs for manufacturing and services indicate that pricing power remains weak.
• Even as surplus liquidity in the banking system post-demonetisation was drained by the ramping up of new currency in circulation by Rs.1.5 trillion in April and May, massive spending by the Government re-injected liquidity into the system, raising the daily average overall surplus liquidity in the banking system to Rs.4.2 trillion in April and ` 3.5 trillion in May.
• The level of foreign exchange reserves as on June 2, 2017 was US$ 381.2 billion.
• It needs to be assessed as to whether or not the unusually low momentum in the CPI reading for April will endure.
• Easing of inflation excluding food and fuel may be transient in view of its underlying stickiness in a situation of rising rural wage growth and strong consumption demand.
• Headline inflation is projected in the range of 2.0-3.5 per cent in the first half of the year and 3.5-4.5 per cent in the second half.
• The risk of fiscal slippages, which, by and large, can entail inflationary spillovers, has risen with the announcements of large farm loan waivers.
• The implementation of the GST is not expected to have a material impact on overall inflation.
• The date for disbursement of allowances under the 7th central pay commission is not yet announced and is not factored into the baseline projections.
• Rising input costs and wage pressures may prove a drag on the profitability of firms, pulling down overall GVA growth.
• The twin balance sheet problem - over-leveraged corporate sector and stressed banking sector - may delay the revival in private investment demand.