RBI holds rates; cuts inflation forecast

The Reserve Bank of India (RBI) kept interest rates unchanged in the first policy meeting of 2018-19, as expected, but surprised markets with a dovish tone that some interpreted as opening up the possibility of a rate cut, even as early as September. The six-member monetary policy committee opted, by majority, to hold the repo rate at 6%, with a sole member recommending instead that the policy rate be raised by 25 basis points.

The central bank lowered its projection retail inflation for the first half of the current financial year to 4.7-5.1% from 5.1-5.6% and to 4.4% in H2, from 4.5-4.6%.

Importantly, it emphasised that excluding the impact of house rent allowance of the seventh pay commission for central government employees, consumer price inflation is projected at 4.4-4.7% for April-September, and at 4.4% for October-December.

The RBI said several factors were expected to accelerate the pace of economic activity in 2018-19.

“While the MPC’s assessment of GDP growth in 2017-18 of 6.6% was lower than a year ago, which was 7.1%, there were important intra-year turning points, most notably investment demand accelerated in the second half of 2017-18 and recent high frequency indicators point to some further strengthening with capital goods production registering a 19-month high growth in January this year,” RBI Governor Urjit Patel told reporters.

GDP growth is projected to strengthen from 6.6% in 2017-18 to 7.4% in 2018-19 — in the range of 7.3-7.4% in H1 and 7.3-7.6% in H2.

“The monetary policy committee was of the view that the pace of economic growth could accelerate in 2018-19 on clearer signs of revival in investment activity and sustained improvement in global demand,” Dr. Patel said.

The MPC noted that growth has been recovering and the output gap is closing which is also reflected in a pick-up in credit offtake in recent months.

‘Unexpectedly dovish’

“This was an unexpectedly dovish policy with the RBI highlighting inflation risks but at the same time revising their forecasts downward,” said Abheek Barua, chief economist, HDFC Bank.

The RBI’s inflation outlook cheered the markets as the yield on 10-year government bond slid 16 basis points to a four month low of 7.13%.

“If this is a permanent shift in the paradigm of inflation management from a singular focus on bringing long term inflation down to 4% to a an approach that is more supportive of growth, then the RBI might go for a long pause,” Mr. Barua said.