The Reserve Bank of India's Monetary Policy Committee's decision on June 8 to hold policy rates was pretty much along expected lines and the overall policy itself had no surprises. The RBI continues with its policy stance of "withdrawal of accommodation".
On the global inflation-growth dynamics, the RBI acknowledges that inflation has eased globally but remains elevated, while growth could decelerate due to tight financial conditions, elevated inflation and geopolitical issues.
On the domestic front, the RBI lowered its CPI inflation forecasts for the 1H of FY24 (from what it projected in April), while keeping the 2H forecasts unchanged. On the other hand, it raised GDP growth forecasts in 1H, while being cautious about the 2H and lowered the forecasts marginally.
The MPC appears more confident now that its past rate actions (250 bps cumulative repo rate hike) and liquidity management are having the desired impact on headline CPI inflation.
Inflation niggles
Since the April policy, conditions have somewhat moderated but some uncertainty around the inflation trajectory persists. Inflation expectations of households are moderating, and this has given the RBI the necessary space to stay in pause mode for the second time in a row.
The headline CPI has come back within the tolerance band of 2-6 percent, but the MPC is of the view that this is not sufficient and that the policy should aim to achieve the target of 4 percent for the CPI.
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The RBI has been watchful of the surplus liquidity that has emerged in the recent few weeks, as evident from the step up in the frequency of variable rate reverse repo (VRRR) auctions recently. At the same time, it has acknowledged the liquidity skew in the banking system and conducted a surprise 14-day repo auction in mid-May to infuse liquidity in the system.
We continue to expect RBI to stay in pause mode. While governor Shaktikanta Das did mention some risks to the inflation trajectory, in our view, the MPC is well-placed at the current juncture to manage any near-term inflationary pressures through liquidity management rather than re-igniting the rate cycle. The RBI would also like to watch the lagged impact of the rate hikes on the domestic demand conditions.
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Not so soon
Our base case of "no rate cuts in CY23" looks more realistic now, with the Das emphasising lucidly that CPI printing within the tolerance band is not sufficient and the MPC would rather focus on the 4 percent target.
Besides, there was also a reference in the governor’s speech to getting the core inflation further down (from the current 5.1 percent) on a more durable basis.
We, therefore, expect a longish pause from the MPC, and the possibility of rate cuts can arise in Q1CY24. Having said that, there is a fair bit of uncertainty around global growth, particularly in 2HCY23, and if stronger recessionary trends emerge globally, the RBI MPC may have to revisit its growth outlook for the domestic economy in the second half of this financial year.
There will likely be some policy dependence on how global central banks respond to the evolving slowdown in global growth and demand conditions, and particularly if the Fed pivots anytime later in the year. But as of now, the situation warrants a status quo.
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With domestic inflation having peaked and the RBI now more expectedly in a pause mode, interest rates will be under less pressure and should ease gradually. The active liquidity management by the central bank is likely to keep short-term rates in check and yield curves may continue to remain flat for some more time. However, from a medium-term perspective, fixed income investors should benefit with yields having peaked.
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