RBI may hike rate; inflation could ease in H2 of 2014: BofA-ML

Says core WPI inflation should rule at relatively benign sub-5% levels with a tight RBI policy dampening pricing power

Foreign brokerage Bank of America Merrill Lynch (BofA-ML) today said it expects the Reserve Bank to hike its repo rate in the next policy to combat inflation, which may ease in the second half next year.

 

BofAML said the Reserve Bank will continue with its fight against inflation and hike the repo rate at which it lends to the system by 0.25% at the mid-quarter policy announcement on December 18.

 

"We believe that inflation is peaking but will abate only in second half of 2014. We expect WPI inflation to peak about the current 7% and come off to 5% levels in H22014 if the 2014 monsoon is normal," it said in a note.

 

Core WPI inflation should rule at relatively benign sub-5% levels with a tight RBI policy dampening pricing power, BofAML said.

 

Since taking over in early September, Governor Raghuram Rajan has hiked rates twice with an eye on inflation, which quickened to 7% in October.

 

"We expect the RBI to shift the money market to repo mode from MSF mode with a 0.25% hike in the LAF policy rate on December 18," it said.

 

MSF (marginal standing facility) is the penal rate at which banks borrow from the RBI after exhausting their borrowing limits under the repo window. The difference between repo and MSF rates has been normalised at 1%.

 

Inflation as measured by the consumer price index may come down to 8.5% by March 2014 and 7.3% in March 2015, the brokerage said. It was at 10.09% in October.

 

BofAML also noted that the RBI tends to overtighten and "this is hurting growth rather than denting an inflation that is largely driven by supply shocks or global liquidity or depreciation due to inadequate FX reserves."

 

BofAML said the rupee's depreciation pushes up inflation by one percentage point and added that it expects the local currency to settle at the 60-65 against the dollar if the ongoing swap facility for deposits gets $20-25 billion.

 

The rupee could test the 68 level again if banks are unable to mobilise deposits of up to $20-25 billion, it said.