Moneycontrol Pro Panorama | Why did monetary policy disappoint the Street?

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Disappointed by the Reserve Bank of India’s (RBI) decision to keep both repo rates and the policy stance unchanged in its February meet, equity markets tanked. Bond yields held firm as expectations of rate cuts seem to be pushed back for now.

The question to ask is this: if nothing changed structurally and fundamentally, why did financial markets react and what did they react to?

While there are many reasons to explain the rise and fall of markets, it is also true that the dependence of financial markets on the central banks’ monetary policy statements, has become an all-encompassing global phenomenon.  Indeed, the Global Financial Crisis (GFC) or the Lehman-crisis brought the importance and credibility of central banks to contain systemic faults and failures, into the spotlight.

But the unprecedented economic tumult faced globally during the COVID-19 pandemic only increased the financial markets’ and investors’ fixation on the central bank’s monetary policy.

This interesting FT article (free to read for MC Pro subscribers) points out that in present times, “central bank whispering is a full-time occupation”. It explains that the regularity of committee meetings has also fused with high-frequency trading, news and social media posts. The article quotes Ricardo Reis, a professor at the London School of Economics as follows, “it creates an obsession with monetary policy — even though the small daily moves in rates have a negligible impact on inflation”.

Cut to RBI’s February meet, the expectation or obsession as you may call it, was that while rates may be unchanged, there could be a change of stance from “withdrawal of accommodation” to neutral. Perhaps, that is where the disappointment was for markets. While the Governor painted an optimistic picture on economic growth at 7 per cent and retail inflation heading lower to 4.5 per cent for FY2025, he made no efforts to loosen liquidity that is “tight”.

The flip side of tight liquidity is that the cost of borrowing increases for the economy or stays elevated, writes my colleague Aparna Iyer in this article. Importantly, five out of the six members were in favour of the decision, while only one member --J R Varma -- voted to cut rate by 25 basis points and change the stance to neutral from the current withdrawal of accommodation.

The implications of the recent Monetary Policy Committee (MPC) decision are that short-term rates may continue to remain volatile. This, in turn, raises worries that the cost of borrowing could remain high and stymie private capex that is not vibrant and ready to crowd out lower public sector capex.

That said, there is hope for RBI to start delivering rate cuts from June 2024, says Neha Dave from MCPro Research team. The MPC members have often expressed comfort about a real rate of around 1.5 percent, which is now 2 percent. Further, financial market experts reckon that most central banks including the RBI may wait for cues from the US Federal Reserve that is also still in “hold” mode.

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Radico Khaitan Q3 — Riding premiumisation tailwinds

Data Patterns: Continuity in earnings growth to support stock

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Vatsala Kamat
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