RBI announces no changes in repo rate. One noteworthy finding from this Monetary Policy Committee meeting is that, despite the fact that five members voted to keep things as they were, Professor Jayanth R. Varma, one of the members, actually voted to decrease the policy repo rate by 25 basis points.
In an attempt to calm markets and lower short-term rates, some in the market had recently begun to speculate that the MPC (Monetary Policy Committee ) might want to change this policy’s stance to something more neutral. However, it was evident that this was not on the Monetary Policy Committee’s agenda.
All things considered, the Monetary Policy Committee finds solace in the recent inflation trajectory, particularly in the case of core inflation, which has moderated fairly well (having dropped by 310 basis points from the peak in April 2022) and is currently below the 4 percent target set by the RBI. It is believed that both goods and services are experiencing a broadening of core inflation (CPI inflation not accounting food and fuel), indicating that the monetary policy is having the desired effect on the economy.
Despite falling within the RBI’s tolerance range of 2 to 6 percent, the headline CPI inflation rate remains sticky and is approaching the higher end of the permitted range. The Monetary Policy Committee believes there is still some uncertainty regarding the trajectory of food inflation, which is contributing to the headline CPI due to the ongoing high food inflation.
Regarding forecasts, the Monetary Policy Committee reduced its CPI estimate from 5.2 percent to 5 percent for Q4FY23–24, or the current quarter, and it anticipates additional moderation to 4 percent by Q2 FY 24–25.
In contrast, the RBI has increased its real GDP growth projections from previous estimates, estimating 7.0% for FY 23–24 and 6.8–7.2% for FY 24–25. The majority of the domestic economy’s engines have been operating well, according to the RBI assessment. These engines include agriculture and growing rural demand, industrial activity (better manufacturing and expanding PMIs for manufacturing), resilient PMI for services, construction activity, household consumption (especially urban) with rising income levels, the investment cycle, which was sparked by government capex but is now also starting to look up, and external demand.
The growing liquidity shortfall in the banking system has garnered the majority of market attention in the last few weeks. The RBI’s decision to maintain tight liquidity thus far in order to temper inflationary expectations and avert another repo rate hike is not shocking. Consequently, rather than being anchored to the repo rate, the overnight rates (also known as call money rates) have spiked and remained high, approaching the marginal standing facility (MSF) rate.
Although the RBI has regularly held Variable Rate Reverse Repo (VRRR) auctions to drain liquidity, in the most recent weeks of acute liquidity shortage, the RBI was forced to use VRR auctions to inject liquidity. The governor reaffirmed during the policy speech that the central bank will be quick to manage the liquidity situation, both in terms of two-way movements.(withdrawal through VRRR and infusion through VRR) and fine-tuned operations (as we have seen recently, with multiple VRRR auctions in a single week).
The governor also emphasized that in order to address any extreme tightness, the RBI has additional tools for managing liquidity.
The policy appears to be fairly balanced, suggesting that the RBI is taking a wait-and-see stance. The Monetary Policy Committee has made it clear that reaching its 4 percent target for headline inflation is its main goal and will remain so. The Monetary Policy Committee has decided to stick with the “withdrawal of accommodation” stance in order to consistently lower inflation because the economy is growing at a fairly strong rate and the economy is still being affected by the 250 bps cumulative rate hikes.
Until there is more proof that the headline CPI is declining, short-term rates are likely to remain high in the near future. It is probable that the RBI will decide to start formally reversing rates in the final quarter of this year, and that it will choose to moderate its stance on liquidity toward the middle of the year. Before implementing rate cuts, the RBI may want to wait for the world’s central banks to make a change of heart while also evaluating the changing geopolitical risks on a global scale.
Longer term rates, on the other hand, would be more influenced by supply and demand. As a result of favorable conditions that are beginning to emerge, such as fiscal prudence and the government’s subsequent indication of lower borrowing, as well as the addition of Indian Government Bonds to the global JP Morgan indices from the middle of the year, long term yields should continue to moderate.
One noteworthy finding from this Monetary Policy Committee meeting is that, despite the fact that five members voted to keep things as they were, Professor Jayanth R. Varma, one of the members, actually voted to decrease the policy repo rate by 25 basis points.
