Monetary Policy: MPC Keeps Rates On Hold; Maintains Guidance 
A cyclist rides along an empty street past the Reserve Bank of India (RBI) headquarters during a lockdown imposed due to the coronavirus in Mumbai, India. (Photographer: Dhiraj Singh/Bloomberg)

Monetary Policy: MPC Keeps Rates On Hold; Maintains Guidance 

India’s Monetary Policy Committee kept its benchmark policy rate unchanged as inflation remained above its target even though the economy continued to contract.

After a review, the committee unanimously voted to keep repo rate unchanged at 4%. The central bank that controls the reverse repo rate separately decided to keep it unchanged at 3.35%. The committee, which has cut rates by 115 basis points since the Covid-19 crisis hit in March, has kept rates on hold since May.

A Bloomberg poll of 30 economists showed that all expect a status quo on the repo rate.

The MPC also maintained its stance, reiterating the October guidance that policy would remain accommodative as long as necessary — at least during the current and into the next financial year — to revive growth on a durable basis.

However, the committee felt that elevated inflation constrains any room for further interest rate cuts at this juncture.

The MPC is of the view that inflation is likely to remain elevated, barring transient relief in the winter months from prices of perishables. This constrains monetary policy at the current juncture from using the space available to act in support of growth. At the same time, the signs of recovery are far from being broadbased and are dependent on sustained policy support.  
MPC Resolution

Growth Outlook

The Indian economy contracted by 7.5% in the July-September 2020 quarter after a contraction of 23.9% in the April-June quarter. While better than estimated, the latest reading reaffirmed that India is amid a technical recession.

The resolution of the MPC noted:

  • That recovery in rural demand is expected to strengthen further, while urban demand is also gaining momentum.
  • Private investment is still slack and capacity utilisation has not fully recovered.
  • Demand for contact-intensive services is likely to remain subdued for some time due to social distancing norms and risk aversion.
Taking these factors into consideration, real GDP growth is projected at -7.5% in 2020-21. GDP is estimated to grow by 0.1% in Q3 FY21 and by 0.7% in Q4 FY21. It is estimated to grow by 21.9-6.5% in the first half of the next financial year, with risks broadly balanced.
MPC Resolution

Inflation Outlook

India’s retail inflation jumped to the highest in more than six years in October at 7.6%, remaining well above the MPC’s 4 (+/-2)% target for the seventh straight month.

In October, the MPC projected CPI inflation at 6.8% for the July-September quarter and was expected to range between 5.4% and 4.5% in the year’s second half.

The MPC resolution stated that the outlook for inflation has turned adverse relative to expectations in the last two months. “The substantial wedge between wholesale and retail inflation points to the supply-side bottlenecks and large margins being charged to the consumer,” it said.

Taking into consideration all these factors, CPI inflation is projected at 6.8% for Q3FY21, 5.8% for Q4FY21 and 5.2-4.6% for the first half of the next financial year, with risks broadly balanced.
MPC Resolution

Liquidity Assurance

Contrary to expectations, RBI governor Shaktikanta Das did not give any indication that the central bank was ready to begin exiting the ultra-easy liquidity stance it has maintain.

Surplus liquidity of more than Rs 5 lakh crore has driven down interest rates for short term government bonds and corporate commercial paper, with some instruments being issued below the repo and reverse repo rates.

Das acknowledged the need to manage domestic liquidity implications of strong foreign capital flows but added that comfortable conditions would be maintained.

We will continue to respond to global spillovers in order to secure domestic stability with our liquidity management operations. The various instruments at our command will be used at the appropriate time, calibrating them to ensure that ample liquidity is available to the system.....Our paramount objective is to support growth while ensuring that financial stability is maintained and preserved at all times.
Shaktikanta Das, RBI Governor

Other Highlights

  • Long term repo operations to be expanded to cover wider set of stressed sectors.
  • Commercial banks and cooperative banks will not be allowed to pay any dividends from the profits made in FY20.
  • RBI has decided to formulate guidelines on dividend distribution by NBFCs.
  • Regional rural banks will be allowed to access the liquidity adjustment facility, the marginal standing facility and the call money markets.
  • Draft directions to be issued for credit default swaps.
  • Draft guidelines for derivatives to be issued today.
  • Discussion paper on supervision of NBFCs based on size to be issued in January.
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