25, 35 Or 50 Basis Points? How Much Will The MPC Cut Rates By?
25, 35 Or 50 Basis Points? How Much Will The MPC Cut Rates By?
India’s Monetary Policy Committee is expected to cut interest rates by another 25 basis points when it announces its decision on Thursday. This would be the third consecutive rate cut in as many meetings in 2019.
The benchmark repo rate, which is currently at 6 percent, would be pared down to 5.75 percent should the committee vote in favour of another 25-basis-point cut.
A Bloomberg poll showed that 27 of 36 economists polled expect a 25-basis-point cut. Seven expect a status quo, while 1 economist expects a 50-basis-point cut. One economist is forecasting a 35-basis-point rate cut after Reserve Bank of India Governor Shaktikanta Das questioned why rate changes must be restricted to multiples of 25 basis points.
The MPC’s vote for rate cuts has been split so far. Two members — RBI Deputy Governor Viral Acharya and Chetan Ghate — have so far voted for a status quo on rates.
Saugata Bhattacharya, chief economist at Axis Bank Ltd., said that he expects another rate cut and a policy statement that gives a strong signal of future MPC actions. This signal could come through a change in stance from ‘neutral’ to ‘accommodative’.
Given the expected growth — inflation trade-offs in the proximate future, we think a majority of the MPC might vote for a cut larger than 25 basis points, in line with governor’s earlier observation that there is nothing sacrosanct in the conventional 25 basis points rate change.Saugata Bhattacharya, Chief Economist, Axis Bank
Weakening GDP Growth
On top of the MPC’s agenda will be to assess the recent weakness in GDP growth, which fell to a 20-quarter low of 5.8 percent in the January-March period. The weakness wasn’t unanticipated and MPC member Chetan Ghate had forecast that the third and fourth quarters would be ‘kitchen-sink’ quarters.
Still, the MPC will need to judge whether further monetary stimulus is needed.
The 50 basis points of rate cuts announced so far in 2019 are yet to transmit through the economy. Also steps taken by the government, such as cash transfers to farmers, may help stimulate rural demand. On the flip-side, weaker global growth could impact the domestic economy and hurt exports.
The case for rate cuts has strengthened with 4QFY19 GDP printing a sub-6 percent growth, and limited immediate levers to provide a sustained growth uptick. The RBI had marked down its FY20 GDP growth by 20 basis points to 7.2 percent in the last policy and we expect them to revise it down further in this policy, also citing deteriorating external growth backdrop which has crept into lower crude prices as well.Madhavi Arora, Economist, Edelweiss Securities
Inflation Scenario Supportive
The inflation outlook remains sanguine for now, which will allow the MPC to focus on growth.
Headline CPI inflation has risen over the last few months due to a reversal in food inflation. However, it remains within the band of 4 (+/-2) percent. In April, the RBI said it expects CPI inflation at 2.9-3.0 percent in the first half of FY20 and 3.5-3.8 percent in the second half.
Core inflation, which had remained sticky, has been easing even as headline inflation has risen. Lower core inflation may suggest weaker demand conditions and convince MPC members in favour of a rate cut.
Bank of America-Merrill Lynch economists, who are predicting a 35-basis-point cut in the repo rate, don’t see any immediate inflation concerns on the horizon.
We track May inflation at a lowly 3.3 percent, well within the RBI’s 2-6 percent inflation mandate despite a temporary uptick in agflation. Not surprisingly, core inflation has slipped to 4.3 percent from 5.4 percent in December with tight liquidity containing pricing power. Oil has also cooled off, although the monsoon remains a risk.Indranil Sengupta, India Economist, DSP Merrill Lynch
The Liquidity Framework
Along with any change in interest rates and stance, bond market participants will be watching for any change in the central bank’s liquidity framework.
So far, the RBI has preferred to keep liquidity in slight deficit even though it was easing rates. The central bank’s rationale behind that is to ensure that the overnight inter-bank lending rate remains close to the policy rate.
Market participants, however, argue that by banking liquidity in deficit, transmission of rate cuts is impaired. That has, indeed, been the case. The 50 basis points in rate cuts announced so far have not led to a commensurate decline in lending rates.
In the days ahead of the monetary policy review, liquidity conditions have turned surplus. Bond markets will be waiting to see if the RBI is willing to allow surplus liquidity to persist.
