RBI's very cogent view: Do not expect a repo rate cut before 2018

RBI's view on GST critical and impartial; policy statement recognises 7.1% GDP growth achieved last year will not be attained, inflation situation will remain grim in the range of 4.2-4.6%

In the fourth bimonthly review of its monetary policy, the Reserve Bank of India’s (RBI’s) monetary policy committee (MPC) on Wednesday kept the repo rate unchanged at 6 per cent, even as the central bank lowered its estimates for gross value added (GVA) growth for the current financial year to 6.7 per cent from 7.3 per cent earlier. The author analyses RBI's policy for Business Standard. There was no expectation of any rate cut this time but what was of interest in the Monetary Policy Statement was the analysis provided by the RBI on the state of the economy and the outlook for the year. Three things stand out.

 
First, the RBI has lowered its take on GDP growth for the year. The central bank takes a view on GVA growth and has lowered its estimate to 6.7% as against 7.3% earlier. Quite clearly it recognises that the growth rate of 7.1% achieved in GDP last year will not be attained. The first quarter growth rate of 5.7% can be improved upon, but no acceleration can be expected.
 
Second, the view on inflation is grim and the expectation is that it will range between 4.2-4.6% during the second half of the year. This is pragmatic as the conditions today which determine inflation are just about neutral. The RBI has pointed to both the Fed increasing the interest rate as well as the unwinding of the QE by ECB. There is hence some indication that it is cognizant of the fact that higher rates in these countries could affect investment flows and have an impact on the exchange rate. Further, the lower estimates of kharif production has been flagged by the RBI as being something to watch for though the stocks available with the government should eschew any need to sound an alarm at this point of time.

 

But here the RBI continues to reiterate that the demand side factors are still at work especially on the pay commission impact and the fiscal slippage on loan waivers. This is something the RBI has been focusing on relentlessly even though general attention is more on food as well as fuel prices on the cost side. Clearly, the RBI sees demand pull factors building up in the economy. The statement also points at the lag effects of such slippages which can be a pointer to the direction of interest rates in FY19 when the full impact will be witnessed.

 
Third, the RBI has critically looked at GST and provided a very impartial view. While it supports such a reform as it is essential it does not deflect attention from the fact that it has caused considerable disruption which will be witnessed in Q2 also and hence practically speaking we can assume the RBI is indicating that a pick-up in the economy could be in  Q3 and Q4 with Q2 being subdued. Also it has linked GST to possible impact on inflation too which again has been already seen in the services segment, where prices have moved up due to higher rates compared with the previous service tax rates.

 
Hence, the RBI stance has been on expected lines, though the inference which can be drawn is that we may have to wait a bit longer for any rate cut in future. It does appear that calendar 2017 may not see any such move and the next cut, if at all, would be in 2018.
 
Two other observations can be made here. First, an interesting move has been to lower the SLR by 50 bps as there is surplus liquidity in the system and banks have excess SLR securities. This should be seen more as a reform at lowering SLR as well as reducing the HTM securities from 20.25% to 19.5%.

 
Second, there has been only one member on the MPC who voted for a rate cut, which was observed earlier. It would be interesting to see if this balance would change in the next policy. The author is Chief Economist, CARE Ratings