The Reserve Bank of India (RBI), in its sixth bi-monthly monetary policy statement, 2014-15 has announced few measures. After a surprise rate slash of 25bps on January 15, 2015, the RBI has decided to keep the Repo rate unchanged at 7.75%. Consequently, the Reverse Reo rate and MSF rate stayed unchanged at 6.75% and 8.75% respectively.
On the rationale for the pause, Upasana Bhardwaj, Economist at ING Vysya Bank said: “Given that there have been no substantial developments on the disinflationary process or on the fiscal outlook since January 15, it is appropriate for the RBI to await them and maintain the current interest rate stance.”
On the liquidity front, Upasana said that the Central Bank had kept the cash reserve ratio (CRR) unchanged at 4% of net demand and time liabilities (NDTL0, but unexpectedly cut the statutory liquidity ratio (SLR) by 50bps to 21.5% of NDTL (with effect from the fortnight beginning February 7, 2015). The RBI has also replaced the export credit refinance (ECR) facility with the provision of system level liquidity with effect from February 7, this year.
“While the stated reason for the cut in SLR is providing greater headroom to banks for lending to productive sectors, the excess SLR holdings (28.4% of NDTL) along with weak credit demand is not likely to have any immediate impact. Infact, the SLR cut will help freeing up funds and giving the banks flexibility in meeting the Liquidity Coverage Ratio (LCR). Meanwhile, the discontinuation of ECR facility is in-line with the Urjit Patel Committee’s recommendation to move away from sector-specific refinance”, she pointed out.
The RBI maintained that CPI inflation would be around the target level of 6% (although a slight deviation from the January 15 statement of ‘below 6%’) by January 2016. “Of course, the trajectory may undergo some revisions after the new revised CPI data with 2012 base is released later in the month but lower rural wages, household expectations and crude oil prices should help cap upside pressures”, Upasana concurred.
The Central Bank had also retained its GDP growth projection at 5.5% for FY15 under the old base. The FY16 GDP estimate is at 6.5% (ING estimate at 6.4%) aided by improved outlook on the back of disinflation, gain in real purchasing power from decline in oil prices, easier financing conditions and some progress on stalled projects. What is more, the RBI has also estimated the current account deficit (CAD) for FY15 at 1.3% of GDP (ING estimate at 1.1%). The moderating imports due to dip in crude oil prices is likely to result in even lower levels next year, in contrast to ING estimate of 0.5% of GDP.
On the outlook, Upasana said: By maintaining a status quo, RBI in today’s policy simply reiterated its stance of acting as and when more data is available which would reaffirm the disinflationary pressure. Also, the Budget would be the next key event. With favourable commodity prices, subdued domestic demand and government clearly intending to focus on fiscal prudence, we see scope for another 50bps of easing this year, with the cuts being front loaded. We believe that the need to keep real policy rates comfortably positive along with Fed beginning to hike its Fed Fund rates will constrain the RBI towards easing in the latter part of the year. Real rates (Repo rate adjusted for CPI inflation) have been negative for most of the 2009-2013 period resulting in a significant financial dissaving. Real policy rates have only started to turn positive since June 2014, currently hovering around 3%. Given a desirable real interest rate of 1.5-2% and our expectation of ~5.5% average inflation in FY16 we expect the Repo rate of around 7.25% by year end.”