We hope that after giving such explicit indications, RBI would resist any rate cut in the next monetary policy
In its final monetary policy meeting for 2016-17, Reserve Bank of India’s (RBI) monetary policy committee (MPC) kept policy interest rates unchanged. Notwithstanding the fact that RBI revised its FY17 real gross value added (GVA) growth forecast for the second consecutive time and believe that CPI inflation is likely to be below 5% in the fourth quarter of FY17, the RBI chose to keep policy rates unchanged.
What, however, grabbed eyeballs were the unexpected change in monetary policy stance from ‘accommodative’ to ‘neutral’. This is attributable to the fact that RBI shifted its focus from January 2017 target of 5% to the medium-term inflation target of 4% (+/-2%). Although inflation is expected to remain muted in the first quarter of FY18 on account of favourable base and lagged effect of demand compression, it is expected to pick up momentum in the subsequent quarters due to three factors – rising crude oil (and other global commodities including food) prices, exchange rate volatility and fuller effects of 7th central pay commission (CPC).
Notably, the RBI’s decision to keep policy rates unchanged was not as surprising as its decision to shift towards neutral policy stance. In central bank’s parlance, this is probably the cleanest signal to the market not to expect more rate cuts.
We have always believed and noted in our commentary that the recent deceleration in headline inflation was primarily attributed to vegetable prices which are very volatile. Interestingly, RBI also used the same explanation to support its monetary policy. Further, RBI stated the core inflation (excluding food & fuel) has been broadly unchanged in the past few months. What is perplexing is that none of these factors are new to make RBI change its monetary policy stance. And that is why it was highly unexpected.
We hope that after giving such explicit indications, RBI would resist any rate cut in the next monetary policy.
Accordingly, not only we believe that rate cuts are behind us but with inflation expected at around 5.8% in the fourth quarter FY18, rate hike in the beginning of 2018 becomes a serious possibility.
The writer is economist, Motilal Oswal Securities Ltd
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