RBI Keeps Repo Rate Unchanged, Changes Policy Stance To Neutral From Accommodative
Monetary policy committee cites sticky core inflation, expects growth to decelerate to 6.9% in 2017.
The Monetary Policy Committee (MPC) on Wednesday kept its benchmark policy rate unchanged for a second consecutive meeting, while also signalling that the interest rate cutting cycle may be over for now. All six members of the MPC voted in favour of holding interest rates.
The committee cited sticky core inflation, which is likely to keep inflation above the 4 percent in fiscal 2018. While the MPC expects growth to decelerate to 6.9 percent in the current year, it forecasts a steep rebound in growth to 7.4 percent next year.
Following today’s meeting, the repo rate stands at 6.25 percent. The Reserve Bank of India (RBI) has cut rates by 175 basis points since the start of 2015, when the rate reduction cycle began.
The decision of the MPC is consistent with a neutral stance of monetary policy in consonance with the objective of achieving consumer price index (CPI) inflation at 5 percent by fourth quarter of 2016-17 and the medium-term target of 4 percent within a band of +/- 2 percent, while supporting growth.MPC Statement
The decision was not entirely unanticipated. In a BloombergQuint poll of 13 economists, eight had forecast a cut in rates while the others had expected a status quo on account of the upside risks to inflation.
Consumer price inflation (CPI) fell to 3.41 percent in December compared to 3.63 percent in November. The headline number has been pushed down in recent months due to the fall in prices of perishable items following demonetisation. While retail inflation is well below the RBI’s March 2017 target of 5 percent, core inflation has remained sticky and is still close to 4.8 percent.
The Committee is of the view that the persistence of inflation excluding food and fuel could set a floor on further downward movements in headline inflation and trigger second-order effects. Nevertheless, headline CPI inflation in fourth quarter of 2016-17 is likely to be below 5 percent.MPC Statement
The statement added that inflation is projected in the range of 4.0 to 4.5 percent in the first half of fiscal year 2018 and in the range of 4.5 to 5.0 percent in the second half with risks evenly balanced around this projected path.
Shifting To A Neutral Stance
The RBI signalled an end to its easing cycle, saying it has changed its policy stance to neutral from accommodative, which it had held since the start of 2015. Shift to a neutral stance will give the central bank more flexibility, RBI Governor Urjit Patel told reporters at the post-policy press conference.
The committee decided to change the stance from accommodative to neutral while keeping the policy rate on hold to assess how the transitory effects of demonetisation on inflation and the output gap play out.MPC Statement
The minutes of the last MPC meeting had shown that RBI governor Urjit Patel is focused on bringing inflation down to 4 percent – the mid-point of the 2 to 6 percent band mandated under the monetary policy agreement.
Growth Outlook
The MPC has brought down its growth forecast for the current year to 6.9 percent from 7.1 percent earlier. It, however, expects a sharp rebound in the next fiscal with growth being projected at 7.4 percent.
The growth revival will be supported by a bounceback in discretionary consumer demand held back by demonetisation. It also expects economic activity in cash-intensive sectors such as retail trade, hotels and restaurants, and transportation, as well as in the unorganised sector “to be rapidly restored”.
“…Demonetisation-induced ease in bank funding conditions has led to a sharp improvement in transmission of past policy rate reductions into marginal cost-based lending rates (MCLRs), and in turn, to lending rates for healthy borrowers,” added the MPC while suggesting that this too will help support growth.
The MPC further added that transmission of policy rates to banks lending rates will be improved if the bad loans in the banking sector are resolved and if recapitalisation of the banking sector is hastened.
Removal Of Cash Withdrawal Limits
The RBI will remove cash withdrawal limits from savings accounts in two stages. The limit will be lifted to Rs 50,000 per week from February 20, RBI Deputy Governor R Gandhi said. The withdrawal limit will be scrapped from March 13, he added.
Remonetisation is taking place at a quick pace and the central bank is waiting for more data to see the effects of demonetisation, Deputy Governor Viral Acharya said.
Yields Surge
The yield on 10-year government notes surged 25 basis points to 6.68 percent as of 3:38 p.m. in Mumbai, according to prices from the RBI’s trading system. That’s the biggest jump in yields for a benchmark 10-year security since September 2013, data compiled by Bloomberg show. The rupee rose 0.2 percent to 67.3075 per dollar.
Axis Mutual Fund sees the 10-year yield between 6.5 to 7.0 percent if inflation settles between 4.5 to 5.0 percent.
Long bonds is not the place to be. Even if inflation settles between 4.5-5.0 percent, the 10-year should be between 6.5-7.0 percent, which is roughly where it is today. So we are not seeing a great opportunity at the long end but short bonds continue to be at the play. Excess liquidity in the banking system will continue to be the dominant player at the short end of the curve. We continue to be overweight at the short end relative to long bonds.R Sivakumar, Head - Fixed Income, Axis Mutual Fund