Manojit Saha: RBI may hold rate in Oct policy

Market participants believe rate cut isn't imminent and RBI will continue to infuse liquidity to enable credit flow to productive sectors

Reserve Bank of India governor D Subbarao refused to oblige former Finance Minister Pranab Mukherjee’s wish of cutting interest rate in the first quarter monetary policy review. A fortnight before the July 31 policy review, Mukherjee had hoped that the RBI would adjust its policy rates as the government was adjusting its fiscal policy.

After the mid-quarter review on September 17, in which Subbarao held on to rates for the third consecutive occasion but reduced cash reserve ratio, Finance Minister P Chidambaram said that RBI’s October policy will be “far more supportive”. The central bank will meet for half-yearly review of monetary policy on October 30.

However, inflation may play spoilsport for Subbarao to adopt a pro-growth stance.

Because nothing much is expected to change on the ground between September 17 and October 30. Out of the three inflation data – two consumer price inflation and one WPI inflation – August CPI is out which has climbed back to 10% level. And nobody is expecting WPI-based inflation to come down to a level which will prompt RBI to cut interest rates to support growth.

“Elevated inflation is likely to keep the RBI on hold for the rest of 2012, in our view,” said Standard Chartered Bank in a note. “RBI highlighted persistent inflationary pressures and noted the upside pressure from high global commodity prices and India’s still-wide fiscal and current account deficits. It made it clear that managing inflation remains its priority,” the report said.

WPI inflation in August jumped to 7.6% from 6.9% recorded in July. Despite hiking the interest rates 13 times – between March 2010 and October 2011 – the average inflation for FY11 and FY12 was close to the double digit mark. The central bank’s tolerance for inflation is around 5%.

"In the last two years, we have been able to bring down the rate of inflation but I admit that inflation is still high and it should come down further,” RBI governor Subbarao said at a function in Himachal Pradesh yesterday.

Market participants said while RBI will be keen to support growth, a rate cut is not imminent and the central bank will continue to infuse liquidity so that credit flow to the productive sector is not hampered.

“It [RBI] should cut the cash reserve ratio by 50 basis points (bp) on October 30 and conduct OMO of Rs 1,00,000 crore by March to pull down lending rates. It will likely cut rates by 75bp in December-March quarter as inflation abates,” said Indranil Sengupta, India economist, Bank of America Merrill Lynch.

“We do appreciate that the RBI Governor Subbarao is reluctant to take chances with the RBI's inflation fighting credentials by cutting rates when September inflation will likely pierce 8%,” Sengupta added.