RBI prefers to stay cautious: Siddhartha Sanyal

The Reserve Bank of India (RBI) maintaining status quo on the repo rate was expected, while surprising with narrowing the policy rate corridor further to plus or minus 25 basis points (bps) around the repo rate (from the hitherto plus or minus 50bps). While the headline reverse repo rate inched higher with the current move, it is important not to interpret it as an uptick in the policy rate cohort. 

First, the bulk of the liquidity absorption by the RBI of late, has been through term reverse repo (mostly at 6.24 per cent) and not through the reverse repo window. Thus, the current move is likely to not materially alter the effective rate at which the RBI has been conducting its liquidity absorption operations. 

Second, this is not a unidirectional move up in the policy interest rates — the upper end of the policy rate spectrum, the Marginal Standing Facility (MSF) rate, has been lowered in Thursday’s policy. Overall, it seems that the effect of the current move will be limited, apart from setting the floor for money market rates somewhat higher. 

While there were expectations of announcements with regard to a potential uncollateralised Standing Deposit Facility (SDF) to absorb excess liquidity, the central bank refrained from that. It seems that introduction of an SDF remains a work in progress. No further details or specific target date were indicated. 

We feel that there might be a need for an amendment in the RBI Act, which currently prevents it from borrowing without extending collateral, before the central bank can roll out uncollateralised SDF facility.

The RBI’s commentary maintained a cautious tone, more cautious than what we had expected in this round, given only a gradual rise in domestic inflation indicators of late, the recent rupee appreciation, stability in commodity prices, and a relatively dovish commentary from the US Federal Reserve, despite hiking rates as expected. 

The RBI forecasts inflation at 4.5 per cent for the first half of 2017-18 and five per cent for the second half, while flagging upside risks to its baseline projections. We expect Consumer Price Index-based inflation to average 5.3 per cent during 2017-18. 

The RBI expects economic activity to strengthen during 2017-18, a view we share. However, growth will likely be more back-loaded during the year, in our view.

On balance, while the neutral policy stance does not exclude the RBI’s change in the repo rate in either direction, it seems the bias of the Monetary Policy Committee is to keep the repo rate on hold in the coming months, potentially through 2017.