No surprise on rates but inflation outlook seems nebulous: Pradeep Madhav

In line with expectations, the Reserve Bank of India (RBI) has continued with status quo on key policy rates. The guidance acknowledged the sustained moderation in Consumer Price Index (CPI)-based inflation, ex-food, ex-fuel (core CPI inflation of 6.9 per cent for August), with its emphasis remaining anchored in ensuring a "glide path" towards six per cent by January 2016.

On the development front, allowing up to five per cent government securities held under the statutory liquidity ratio (SLR) as level-I high-quality liquid assets to meet the liquidity coverage ratio under Basel-III norms; laying a road map to cut SLR under the held-to-maturity category to 22 per cent by September 2015; and reducing uncertainty around its convergence with SLR are some welcome steps.

Extending the permissible limit for short-sale of liquid securities; allowing banks and primary dealers to undertake short-sale in the over-the-counter market; extended settlement timings for foreign portfolio investors; and allowing re-repo of securities to develop the term repo/money market suggest determination to broaden and deepen the government securities market.

On the liquidity front, we were expecting some relaxation on the 95 per cent statutory minimum daily maintenance of cash reserve ratio, as this would allow banks flexibility in managing liquidity.

Assuming a baseline case, 'model' projections estimate CPI-based inflation will moderate to seven per cent by January 2016. This has added another layer of uncertainty in the inflation targeting framework, as the wedge between the projection (seven per cent) and the target (six per cent) has led to debate on the future course and the direction of action on interest rates. On the whole, while the policy did not surprise on the rates front, the outlook for inflation now appears more nebulous. Undoubtedly, the central bank remains firmly committed on its anti-inflationary stance, which leads us to believe no action on the policy rate front can be expected until the fourth quarter of FY15.

Pradeep Madhav
MD, STCI Primary Dealer