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All eyes are set on the Reserve Bank of India (RBI) bi-monthly monetary policy that is set to be announced tomorrow. A rate hike scenario is a high possibility, however, experts are of mixed opinions on the quantum at which the repo rate will be increased. Notably, HDFC Bank expects a 25 basis points rate hike in this upcoming policy. The largest private bank does not see a compelling case for a 50 basis points hike.
In their treasury research report dated June 7, economists at HDFC Bank said, "at the upcoming policy meeting, the RBI is expected to raise the policy rate by 25 bps while continuing to keep its stance and the CRR rate unchanged."
HDFC Bank's note said, "We tilt on the side of a 25 bps rate hike instead of 50 bps as we do not see a compelling case for a larger rate hike at this stage."
As per the research note, the central bank could take comfort from the recent measures announced by the government to combat inflation. Also, the expectation of a normal monsoon and some recent moderation in global food prices provide some comfort for the food inflation outlook.
Further, HDFC Bank's note said, "after delivering a 40 bps rate hike in May, the central bank could err on the side of caution and avoid any major disruptions in the financial market (especially in regards to the bond market where keeping borrowing costs at bay remains a key objective) and to growth, which remains uneven and has shown signs of a fragile recovery at best."
On May 4, RBI surprised streets by hiking the policy repo rate by 40 basis points to 4.4%, while the standing deposit facility (SDF) rate was adjusted to 4.15%, and the marginal standing facility (MSF) rate and the Bank Rate to 4.65%.
Despite of the repo rate hike, RBI further surprised by maintaining the accommodative last month. However, it also announced its focus on "withdrawal of accommodation to ensure that inflation remains within the target going forward while supporting growth."
While the rate hike expectations were on the cards from RBI considering the worsening of inflation due to the macro backdrop - has hindered the economic growth trajectory ahead. However, the May 4th policy announcement came as a shock and markets corrected steeply as RBI was seen tilting towards monetary policy tightening and ensuring sufficient liquidity, something that other major central banks globally have been also opting for.
Major central banks globally are expected to have more room to hike rates due to inflationary pressures and RBI is included.
On monetary policy stance, HDFC Bank's note said "we do not expect any change in the current monetary policy stance despite the increase in rates. From what we understand, the “accommodative while focusing on withdrawal of accommodation" stance is perhaps in line with the central bank’s move towards pre-pandemic levels of interest rates (repo rate at 5.15%) – so a reset in rates instead of a sharper tightening. If our reading is correct, the stance could remain unchanged until the pre-pandemic level of interest rate (or thereabouts) is achieved."
Talking about the inflation outlook, HDFC Bank's note said, "We do expect the RBI to change its inflation forecast by 70-80bps from 5.7% earlier citing the change in global and domestic price pressures. Although the growth forecast is expected to be kept unchanged at 7.2% for FY23."
In May policy, RBI stated that heightened uncertainty surrounds the inflation trajectory, which is heavily contingent upon the evolving geopolitical situation. Global commodity price dynamics are driving the path of food inflation in India, including prices of inflation-sensitive items that are impacted by global shortages due to output losses and export restrictions by key producing countries. International crude oil prices remain high but volatile, posing considerable upside risks to the inflation trajectory through both direct and indirect effects.
RBI added that core inflation is likely to remain elevated in the coming months, reflecting high domestic pump prices and pressures from the prices of essential medicines. Renewed lockdowns and supply chain disruptions due to the resurgence of COVID-19 infections in major economies could sustain higher logistics costs for longer. All these factors impart significant upside risks to the inflation trajectory set out in the April statement of the MPC.
During the first bi-monthly policy announcement in April, RBI had predicted inflation at 5.7% in 2022-23, with Q1 at 6.3%; Q2 at 5.8%; Q3 at 5.4%; and Q4 at 5.1%.
India's consumer price index (CPI) inflation has galloped to an eight-year high of 7.79% in April 2022. Food inflation jumped to 8.38% in the month. This would be the fourth consecutive month where inflation has stayed above RBI's comfort zone.
Any change in RBI's repo rate will have an impact on banks' lending and deposit rates.
Ahead of RBI policy, markets witnessed deep selling pressure. Sensex closed at 55,107.34 down by 567.98 points or 1.02%. Nifty 50 ended at 16,416.35 lower by 153.20 points or 0.92%. Markets are cautious about monetary policy decisions.