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RBI Monetary Policy: Less Hawkishness, Rate cuts need to wait

11 Dec 2023

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KEY TAKEAWAYS 

  1. In line with our and market expectations, the Monetary Policy Committee (MPC) of the RBI maintained a status quo on the repo rate at 6.50% and the stance on “withdrawal of accommodation” in its scheduled policy meeting on 8th Dec-23.  
  2. This marked the fifth consecutive monetary policy of no action on rates accompanied by an unchanged stance.
  3. On macroeconomic outlook, the RBI upped its GDP growth forecast for FY24 by 50 bps to 7.0%. Quarterly growth projections for Q3 FY24 and Q4 FY24 were upped by 50 bps and 30 bps to 6.5% and 6.0% respectively.
  4. Forecast for FY24 CPI inflation was held at 5.4%.
  5. These dynamics of inflation forecast remaining unchanged and growth receiving a strong boost, in our opinion, reinforces the view of monetary policy status quo remaining intact in the coming quarters.
  6. We continue to believe that MPC will remain on a prolonged pause, at least until Q1 FY25.
  7. The downplaying of an active OMO sale compared to Oct-23 policy commentary when juxtaposed against the anticipated spike in Nov-Dec-23 CPI inflation have curtailed the bullishness on bonds. We continue to anticipate a range bound movement in g-sec yields with likelihood of moderation towards 7.00% levels by the end of FY24.


In line with our and market expectations, the Monetary Policy Committee (MPC) of the RBI maintained a status quo on repo rate at 6.50% and the existing policy stance in its scheduled policy meeting on Dec 8, 2023.   This marked the fifth consecutive monetary policy of a pause on rates accompanied by an unchanged stance.

  • Status quo on rates was unanimously backed by all MPC members. 
  • The policy stance was retained with the MPC deciding “to remain focused on withdrawal of accommodation to ensure that inflation progressively aligns to the target, while supporting growth”.
  • Like in the previous four reviews, the stance found support from 5 out of 6 members, with Prof. Jayanth R. Varma continuing to lean towards a neutral stance.


Macroeconomic Economic Outlook


With respect to FY24 economic outlook -

  • The RBI upped its GDP growth forecast for FY24 significantly by 50 bps to 7.0% after the strong GDP data of the second quarter. Quarterly growth projections for Q3 FY24 and Q4 FY24 were upped by 50 bps and 30 bps respectively to 6.5% and 6.0% respectively. For FY25, Q1 growth was revised higher by 10 bps to 6.7%, while that for Q2 and Q3 FY25 were introduced at 6.5% and 6.4% respectively. 
  • Forecast for FY24 CPI inflation was held at 5.4%. The quarterly projections were retained at 5.6%, 5.2% and 5.2% for Q3 FY24, Q4 FY24 and Q1 FY25 respectively. Projections for Q2 and Q3 FY25 were introduced at 4.0% and 4.7% respectively.


Key Takeaways


Since Oct-23 policy review, the global economic fragility and the impending slowdown is appearing plausible. This has led economic observers to believe that monetary policy rates may have peaked, and the timing of the pivot in early 2024 is now under intense discussion and debate. While headline inflation has receded, core inflation continues to be sticky, impeding the last mile of disinflation.

From India’s perspective, comfort has transpired on both growth and inflation front.

  1. CPI inflation has moderated from northwards of 7.0% in Jul-22 to 4.9% as of Oct-23, aided by correction in price of perishables, reduction in LPG cylinder price amidst several administrative measures undertaken by the Government.  
  2. The extent of resilience in growth on the other hand, has surprised on the upside with Q2 FY24 GDP growth of 7.8% exceeding expectations (6.8% consensus) considerably. In addition, Q3 FY24 has commenced on a strong note, buoyed by festive season demand, which could lend lingering support to Q3 growth.

As such, we too have upped our FY24 GDP growth forecast from 6.0% to 6.5% recently, with the possibility of a further upward bias. Our CPI inflation estimate for FY24 remains unchanged at 5.6%.

While the RBI did acknowledge the volatility in food inflation due to several supply side shocks, it appeared less concerned as these one-off shocks could be largely ‘looked-through’ from monetary policy perspective in its opinion and may be addressed through specific supply side measures by the Government.  

These dynamics of - inflation forecast remaining unchanged and growth receiving a strong boost up, in our opinion, reinforces the view of monetary policy status quo remaining intact in the coming quarters. The rates remaining higher for longer aligns well with RBI’s view that “monetary policy must continue to be actively disinflationary to ensure fuller transmission and anchoring of inflation expectations”.

Keeping the growth-inflation dynamics in mind, we continue to believe that MPC will remain on a prolonged pause, at least until Q1 FY25. A reasonable visibility on the potential attainment of 4% inflation target could pivot the reaction function in favor of a rate cut possibly in Q2 FY25. 

G-Sec View


G-secs stayed largely unchanged post the policy announcement, with the 10-year g-sec yield closing 2 bps higher at 7.26% versus previous closing. The downplaying of an active OMO sale compared to Oct-23 policy commentary when juxtaposed against the anticipated spike in Nov-Dec-23 inflation has curtailed the bullishness on bonds. 

 

We continue to anticipate a range bound movement in g-sec yields with likelihood of moderation towards 7.00% levels by the end of the current fiscal year on expectation of further demonstration of fiscal consolidation by the central government in the upcoming vote on account budget for FY25. This is likely to be supported by market positions ahead of anticipated Fed pivot in Apr-Jun 2024 quarter along with bond index related inflows.

 

Additional Measures:


  • Fintech Repository: RBI has proposed to set up Fintech repository for better understanding of developments in Fintech ecosystem and to offer support. 
  • Enhancement of UPI transaction limit: For hospitals and educational institutions, from Rs 1 lakh to Rs 5 lakh per transaction. 


 

Says Suman Chowdhury, Chief Economist and Head – Research, Acuité Ratings & Research “Expectedly, RBI-MPC has persisted with the pause mode on the monetary policy and the stance. However, the intensity of hawkishness in the policy statement has clearly subsided and a balance has been brought in. The governor has also highlighted that “over tightening” can also pose growth risks to the economy which possibly provides a signal that the policy stance may be subject to review in the subsequent MPC meetings. 

 

Clearly, RBI is more optimistic on the domestic growth prospects after the release of GDP data for the second quarter which placed GDP growth for H1 at 7.7% YoY. Compared to its earlier growth forecast of 6.50% for FY24, the revised growth forecast of the central bank stands materially higher at 7.0%. Given the expected moderation in rural demand in H2 and the weaker private consumption growth at 3.1% in Q2FY23, Acuité Research has however, pegged the growth forecast relatively lower at 6.50%. 

From the inflation perspective, RBI MPC has maintained the CPI inflation forecast at 5.4%. However, it has also sounded a caution on the upside risks to food inflation due to supply shocks in the near term, reiterated its target CPI inflation of 4.0% and indicated that supply side risks will make the MPC exercise caution before any revision in the benchmark rates. Further, the strong growth expectations will also not put any pressure on the MPC to go for a rate reduction in haste and we continue to believe that any such rate cut is unlikely to happen before the second half of CY24. 

The statement has also addressed the market concerns on liquidity by clarifying that OMO will be adopted only if required and currently, the liquidity is already in a relatively tight mode. Further, an operational issue for banks and money market participants has been resolved by permitting balance adjustments to the MSF and SDF in holidays and over the weekends. This will help in normalizing the sharp swings in system liquidity and prevent excessive volatility in call money or other short term rates. 

RBI has also talked about a “unified regulatory framework on connected lending” which highlights that the central bank has concerns on lending excesses through NBFCs and risks of multiple lending and plans to address it through appropriate data tracking and policies.”


Chart 1: G-sec yields could soften further as market gets clarity on Fed pivot timing