The Reserve Bank of India (RBI) is expected to hike the key policy rate while lowering the marginal standing facility (MSF) rate when it announces the second-quarter monetary policy review on October 29.
After the shocker of a rate hike Raghuram Rajan delivered in his maiden policy review as governor last month, the markets appear to be convinced that the central bank won’t drop its guard on inflation despite slower growth.
“With the MSF down 125 basis points (bps) in the past month, the repo increase won’t constitute a major tightening, but the signal will be clear about the central bank’s desire to anchor inflation expectations,” said Taimur Baig, chief economist, Deutsche Bank.
The twin actions may be directed toward normalising the liquidity adjustment facility corridor. Presently, the repo rate – the rate at which banks borrow from the RBI – is at 7.5%, while the MSF rate is at 9%.
MSF acts as an exceptional borrowing window, albeit at a rate higher than the repo.
Currently, banks are heavily accessing the MSF window due to the cap of 0.5% of net demand and time liabilities on repo.
Some bankers are hoping this cap would be lifted in the policy review, which would help them meet credit demand during the festive season.
“There is a small possibility of the RBI easing the cap on repo borrowing, which would take the overnight rate closer to the repo rate,” said Abheek Barua, chief economist, HDFC Bank.
However, the RBI is not expected to be aggressive on easing liquidity due to concerns on inflation.
“While we see the possibility of the RBI taking some measures to reverse the quantitative tightening by way of increasing the magnitude of liquidity accessible at the repo rate, we believe that an aggressive move to ease liquidity conditions in order to transition back towards making the repo rate the effective policy rate may be deferred to a later date,” said Chetan Ahya and Upasana Chachra, economists at Morgan Stanley.
Moreover, the RBI had cut the MSF rate by 50 bps on October 7 in a mid-term measure to ease liquidity conditions. The central bank had also introduced term repos of 7-day and 14-day tenor for 0.25% of NDTL.
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