Reserve Bank of India (RBI) Governor Duvvuri Subbarao has made a series of hawkish statements since the mid-quarter review on June 18, but market participants are still betting on the governor’s inclination to surprise the market.
While the overall feeling still is that the central bank will hold the rate during the first quarter review of the monetary policy, scheduled on July 31, many feel there is still the chance of a rate cut.
In a note titled ‘Could the RBI surprise yet again and cut rates on July 31?’, Citi India economist Rohini Malkani says there are three possible reasons for this: (1) The government raises fuel prices, thus indicating some commitment to addressing the fiscal situation; (2) justifying the rate cut in the light of a likely revision to its annual GDP (gross domestic product) estimates (RBI’s 2012-13 financial year GDP estimate is currently at 7.3 per cent); and (3) comfort on stabilising core inflation and the rupee.
During the April policy review, when market expectation was divided between no rate cut and a maximum 25-basis-point (bp) rate cut, as inflation was still high, Subbarao pleasantly surprised the market by delivering a 50-bp rate cut to boost growth and on the back of moderation in core inflation.
| INFLATION YARDSTICK What the central bank considered for policy action | ||||
| Date | Policy | Expectation | Action | Reason |
| Jul 26,11 | First quarter monetary policy review | 25-bp rate rise | Rate rise by 50 bps | High WPI |
| Sep 16,11 | Mid-quarter policy review | 25-bp rate rise | Rate rise by 25 bps | High WPI, CPI |
| Oct 25,’11 | Second quarter monetary policy review | No repo rate rise | Rate rise by 25 bps | High WPI |
| Dec 16,’11 | Mid-quarter policy review | No change in rate but CRR cut expected | No change | Moderation in WPI, CPI |
| Jan 24,’12 | Third quarter monetary policy review | CRR cut | CRR cut by 50 bps | Moderation in growth, WPI |
| Mar 15,12 | Mid-quarter policy review | Repo cut | No change | WPI moderated though CPI sticky |
| Apr 17,’12 | Annual monetary & credit policy | 0-25-bp rate cut | Rate cut by 50 bps | Fall in growth, WPI though CPI was high |
| Jun 18, ‘12 | Mid-quarter policy review | 25-bp repo rate cut | No change | High CPI though WPI moderated |
| WPI: Wholesale Price Index; CPI: Consumer Price Index; CRR: Cash Reserve Ratio; bps: Basis points Source: RBI | ||||
In the next policy meeting, in May, the expectation was that the governor would continue with a pro-growth stance, amid fall in crude oil prices. But Subbarao opted for status quo, with an extremely hawkish statement.
The Reserve Bank of India governor acknowledged headline inflation had moderated but pointed out consumer price inflation (CPI) was in double digits, for the first time since the index was introduced in January.
Market rates seem to have factored in a positive surprise from the central bank this time. The overnight indexed swaps, that reflect market perception of interest rates, have softened to below the repo rate during the course of the first quarter.
“These signify that markets are expecting some kind of easing. Possibility of rate cuts is dim in the backdrop of poor monsoons but perception of lower interest rates remain,” said a senior treasury official from a large public sector bank. “It is also being reflected in the cash market.”
The rates on certificates of deposit (CDs) have fallen to below nine per cent recently from over 11 per cent levels at the beginning of the current financial year. Comfortable liquidity conditions and low credit demand have led to a fall in issuances from banks.
Daily liquidity injection by RBI through the repo window is now within its comfort zone of one per cent of net demand and time liabilities. Today, banks borrowed Rs 24,010 crore through RBI’s liquidity adjustment facility.
However, an element of unpredictability is abound. “A rate cut looks difficult when inflation is high and monsoons are not up to the mark. The market consensus is that the central bank may hold rates but one cannot predict the policy action,” said a senior banker.