Repo rate, CRR and MSF left unchanged; 'inflation data marred by noise, so no need to overly react'.
In a surprise move, the Reserve Bank of India (RBI) decided to keep all policy rates unchanged in the mid-quarter monetary policy review on Wednesday.
It was widely expected that the central bank will hike policy rates by at least 25 basis points (bps) after inflation at retail level jumped to 11.2% and at wholesale level to 7.5% in November.
The repo rate, or the rate at which banks borrow from the RBI by pledging government securities, is at 7.75% currently. It was hiked by 25 basis points each in September and October policy reviews.
The cash reserve ratio or CRR, the money banks are mandated to set aside with the RBI, was held at 4% of net demand and time liabilities. The marginal standing facility (MSF) rate was also unchanged at 8.75% and reverse repo at 6.75%.
While the RBI noted that both inflation levels were unacceptably high, it emphasised that there was merit in waiting for a clearer trend to emerge from the next round of data. The central bank said it would prefer not to “overly react” to inflation amid economic slowdown.
“In an environment where there is a weak economy, we have to try and see what is the underlying strength of inflation that we are trying to tackle recognising that monetary policy works with a very long lag,” said RBI governor Raghuram Rajan noting that “the recent (inflation) numbers have a lot of noise. We want to look through them”.
The recent spike in retail and wholesale inflation was largely led by rising vegetable prices. As per the Wholesale Price Index (WPI), food inflation was at 41-month high of 19.93% in November.
This, according to the RBI, could be just a temporary spike.
“There are indications that vegetable prices may be turning down sharply although trading mark-ups could impede the full pass-though into retail inflation. In addition, the disinflationary impact of recent exchange rate stability should pay out into prices,” said Rajan.
Core retail inflation (excluding food and fuel components) that was at 8% in November, would be an important data point to watch out for.
“The RBI has put a lot of focus on next data which could be risky. If core retail inflation goes up sharply, they may be forced to hike rates in January,” said A Prasanna, chief economist at ICICI Securities Primary Dealership. The next policy review is slated for January 28, 2014.
However, in a hawkish policy review, the RBI said that the rate action may well come before that. If the expected softening of food inflation does not materialise and translate into a significant reduction in headline inflation in the next round of data releases, or if inflation excluding food and fuel does not fall, the RBI “will act, including on off-policy dates, if warranted”.
Rajan warned that the central bank’s decision of not hiking rates does not mean it is dropping its guard on inflation. “We are not being soft of inflation, we are waiting for data. It should not be taken that we are on hold,” he said.
In terms of economic growth – GDP growth in the second quarter of this fiscal came in at 4.8% – Rajan reiterated that it will pick up in the second half with the help of agricultural growth, strong exports and project clearances.
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