In line with market expectations, the RBI's Monetary Policy Committee (MPC) maintained the status quo on the repo rate at 6.50% in its Oct-24 policy review. More importantly, the MPC shifted its monetary policy stance to ‘neutral’ from ‘withdrawal of accommodation’. In the commentary on the revision in stance to neutral, MPC nevertheless laid equal emphasis on “remaining unambiguously focused on a durable alignment of inflation with the target while supporting growth”.

In particular:

• 5 of the 6 MPC members voted in favour of the status quo on rates. Dr Nagesh Kumar voted to reduce the policy repo rate by 25 bps.
• All six MPC members voted for a shift in policy stance (in contrast to the previous policy review in Aug-24 that saw two out of six MPC members voting for a neutral policy stance).
• To take on board, this MPC comprised three newly appointed external members.

Macroeconomic Outlook

The central bank retained its FY25 GDP growth and CPI inflation forecast of 7.2% and 4.5%, respectively, for the third consecutive policy review. However, there were a few minor tweaks:

• GDP growth forecast for Q2 FY25 was revised lower by 20 bps to 7.0%. Meanwhile, quarterly forecasts for Q3 FY25, Q4 FY25 and Q1 FY26 were revised upwards by 10 bps, 20 bps and 10 bps, respectively, to 7.4% for Q3 and Q4 FY25 and 7.3% for Q1 FY26.
• CPI inflation forecast for Q2, Q4 FY25 and Q1 FY26 was revised lower by 10-30 bps to 4.1%, 4.2% and 4.3%, respectively. In contrast, inflation forecasts for Q3 FY25 saw an upward revision of 10 bps to 4.8%. 
• The FY25 CPI inflation forecast is largely in line with our expectations. Regarding growth, we continue to hold on to our projection of 7.0%; however, we now believe that the latest domestic economic indicators and the latest global economic developments pose increased downside risks to that forecast. 

Key regulatory and developmental announcements

• RBI has been voicing concerns on the aggressive growth in some NBFCs and in unsecured asset classes and this has further been reiterated in the MPC statement. While asserting that the domestic financial sector is healthy, it has sounded a caution to NBFCs against prioritising growth at the cost of process compliance, due diligence and prudent underwriting. 
• Creation of Reserve Bank Climate Risk Information System (RB-CRIS), which will comprise of a web-based directory publicly accessible, listing various data sources (meteorological, geospatial, etc.), along with a data portal comprising of datasets (processed data in standardised formats). This data portal will be available only to the regulated entities in a phased manner.
• UPI limits for UPI123Pay and UPI limit enhanced to encourage wider adoption of UPI.
• Introduction of beneficiary account name look-up facility in RTGS and NEFT transactions (akin to IMPS) to increase customer confidence and reduce the possibility of wrong credits and fraud. 

Key takeaways 

• In the commentary on the change in stance to neutral, the RBI Governor laid emphasis on “remaining unambiguously focused on a durable alignment of inflation with the target while supporting growth”.
• Despite the anticipation of CPI inflation accelerating in Sep-24 (data to be released next week), the healthy kharif sowing, adequate reservoir levels and good soil moisture should start easing food price pressures beginning Oct-Nov 2024 and well into Q4 FY25. 
• As such, the spike in food prices in Sep-24 and part of Oct-24 should be temporary.  RBI Deputy Governor Dr Patra, during the press conference, said that the MPC would like to see off this “small hump” in inflation.
• Significant upside risk to inflation comes from uncertain weather conditions, continuing geopolitical tensions and the recent pickup in certain commodity prices.
• RBI’s optimism on growth comes from steady urban consumption, likely rural demand recovery on the back of improved agricultural activity, pickup in government spending and private capex amidst improving global trade prospects. For FY26, RBI estimates GDP growth to stay relatively steady at 7.1% as per its statistical models. 
• Since the last monetary policy meeting in Aug-24, the global monetary policy backdrop has moved decisively towards easing, with several key central banks embarking on a rate easing cycle. With the US Federal Reserve delivering a jumbo 50 bps rate cut in Sep-24, more central banks could potentially initiate/accelerate their respective monetary easing plans in the ongoing quarter. Although domestic growth-inflation dynamics govern domestic monetary policy, global spillovers via global commodity prices, trade and financial markets (esp. currency) could somewhat tilt the balance.

Outlook

In our view, the shift in the monetary policy stance to neutral paves the way for a pivot in the repo rate in the forthcoming meetings. To quote RBI– “a shift to a neutral stance thus gives a greater flexibility and optionality to react to evolving conditions”. Keeping in mind the current growth-inflation dynamics, we continue to expect the MPC to commence its monetary policy easing cycle with a 25 bps rate cut in Dec-24.

Having said that- 

• The period between now to the next policy in early Dec-24 will provide clarity on the resilience in growth (Q2 FY25 GDP data to be released at the end of Nov-24), the extent of seasonal food price correction over Oct-24 and Nov-24, momentum in monetary policy easing by key central banks, and the evolving geopolitical environment. 
• A less-than-anticipated moderation in CPI inflation (post-Nov-24) could possibly delay the onset of easing to Feb-25. 
• Overall, we maintain our expectation of a 50 bps cumulative rate reduction in H2 FY25. The expected rate easing cycle, though is likely to be shallow:

1. The central bank is committed to ensuring inflation attains its target on a durable basis rather than a few quarters.
2. Real rates provide a limited latitude for downward adjustment (as per the RBI, the strong post-COVID recovery has resulted in the estimate of India’s natural rate moving up to 1.4-1.9% range from its earlier estimate of 0.8-1.0% range in FY22).
3. Fiscal deficit is yet to align with its pre-COVID low of ~3.5% of GDP.

Liquidity and G-sec View

G-secs yields ended 6 bps lower at 6.76% after the announcement of the shift in monetary policy stance to neutral. 

The 10Y g-sec yield has attained our forecast of 6.75% (for Mar-25) earlier than our expectation. We now revise our forecast lower for 10Y g-sec yield to 6.50% for Mar-25, owing to:

• Clear visibility on the commencement of monetary policy easing from the RBI in the foreseeable future. 
• Bond index related to foreign buying. India’s inclusion in the three EM bond indices, i.e., - JP Morgan, Bloomberg, and FTSE Russel, would result in USD 30-35 bn of passive debt inflows before the end of FY26. This will lower the supply pressure at a time when the fiscal deficit has been narrowing. 
• Although the RBI’s proposed changes in the Liquidity Coverage Ratio framework are in the discussion stage, its implementation in the current form could result in an increase in HQLA-led demand for g-secs, thereby providing further downside to g-sec yields. We will monitor this regulatory development for further cues. 

Says Suman Chowdhury, Chief Economist and Executive Director, Acuité Ratings & Research “RBI MPC has expectedly, retained the benchmark interest rates but has decided to revise the monetary policy stance to “neutral” albeit with an unambiguous focus on inflation while supporting growth.

While the MPC has not provided any clear guidance on the rate cuts, it is likely that it will go for a rate cut in Dec-24 or Feb-25, provided the inflationary environment is stable and the headline inflation is consistently within 4.5% in the next few months. It did highlight concerns on the geo-political risks and the weather-related shocks along its adverse impact on commodity prices particularly crude oil where our import dependence is very high. The forecast on inflation again remains unchanged at 4.5% although it expects the headline CPI inflation to rise slightly in Q3 from Q2 due to the base factor.

MPC’s assessment of growth continues to be optimistic with GDP growth forecast retained at 7.2% for FY25 and the Q2 forecast slightly lower at 7.0%. While it did mention of some high frequency indicators like PMI and core sector slowing down in Aug-Sept, it has attributed to excess rains and one-off factors and believes that economic activity will pick up significantly in the second half of the fiscal with higher public investments. In our opinion, there are early signs of a moderation in the growth trajectory in the current year that deserve to be closely monitored and the downside risks to our own forecast of 7.0% GDP growth has increased. If the subsequent data points over the next 2 months highlight the risks of a slowdown and particularly the GDP data for Q2 is well below 7.0%, the likelihood of a rate cut will get stronger in Dec-24.

The other important takeaway in the MPC statement is the early warning sounded out to the NBFC sector. There was a clear message that there is aggressive growth in some asset classes among NBFCs and specifically in the microfinance sector which can pose risks for financial stability going forward. It was also a signal to the banking sector to remain cautious on their exposure to the NBFC sector. In our opinion, this will slow down bank credit growth to the sector in the near term and also lead to higher mobilization of funds through the bond market.”