RBI may venture GDP forecast for FY21 in October, rate cut unlikely

NEW DELHI: Having refrained from giving growth estimates, RBI Governor Shaktikanta Das may take up the unsettling task of forecasting GDP growth for the first time post-Covid during the forthcoming monetary policy meet in October.

The projection will be critical as it would lay out the RBI's assessment of the extent of the slowdown and the medium-term implications of the ongoing crisis.

On the other hand, high inflation may also force the committee to stand pat and keep the repo rate unchanged at 4 per cent for the second time. The last policy rate cut, by 40 basis points, had been made in May.

Usually, the Monetary Policy Committee (MPC) gives annual guidance on inflation and GDP growth twice a year: in April and October. So far this year, however, Das spoke about economic contraction without quantifying the magnitude given the unprecedented uncertainties.

"Even with the appointment of three new external members, the MPC may get a makeover, though it is unlikely to change the broad direction of policy making," said Rahul Bajoria, chief economist at Barclays India.

Price trends have shown that headline CPI remained as high as 6.69 per cent in August, and a "durable reduction" in inflation has not manifested which would allow the RBI to consider alternative policy options. At the same time, there are also some signs of improvement in economic activity as lockdown restrictions are eased.

"As such, the inflation-constrained central bank is unlikely to deliver a rate cut, and we expect all policy rates - the repo rate, the reverse repo rate and the cash reserve ratio - to stay unchanged. RBI may cut rates only once more, by 25bps, in Q1 2021," Bajoria noted.

RBI is mandated to maintain headline inflation at 4 per cent, but can lean 2 per cent on either side.

However, CPI inflation has remained above the median target for the last nine months, after excluding the imputed prints for April and May, due to the massive supply disruptions caused by the pandemic couple with a severe demand compression.

The GDP shrank 23.9 per cent in the April-June period, with analysts expecting growth to contract 8-12 per cent in FY21. With rising inflation and falling GDP, it remains to be seen how the central bank will strike a balance between price stability and growth.

A few also note that monetary policy is somewhat powerless to prevent growth going sideways for two reasons. One, the transmission of rate cuts to real lending rates by banks has been inadequate. Two, commercial credit flow has slowed due to the unwillingness of companies to borrow and banks to lend.

"The reduction in the policy rate has not transmitted fully to the credit market, and credit growth remains negative, at -1.5 per cent (April to August), in spite of a 115-point cut in the repo rate since the pandemic began," pointed out M Govinda Rao, chief economic Adviser, Brickwork Ratings.

Rao added that banks, particularly the public sector, continue to park their excess liquidity (which is more than Rs 6.5 lakh crore on a daily basis) in the RBI's reverse repo window at a rate of 3.35 per cent. Even on the retail side, Bajoria noted, there seems to be a sense of fatigue with interest rates on new loans rising for the first time in 2020.

According to Madan Sabnavis, chief economist, Care Ratings, core inflation is likely to remain sticky in September, too on account of high inflation in the miscellaneous segment.

"That apart, the liquidity situation is comfortable while bank credit growth has been negative. Under these conditions the decision may steer towards another pause," Sabnavis noted.

Differing from the dominant view, however, Bank of America Securities, sees room for a 15 bps rate cut, with CPI inflation dropping to 2.5-3 per cent in October-March.

"We expect the new RBI MPC to cut 15 bps on October 1. While it would surely prefer sub-6 per cent inflation for its first rate cut, time is running out with the 'busy' industrial season commencing October," Bank of America Securities' economists noted.