RBI cuts repo rate by 35 bps to 5.4%

GDP forecast scaled down to 6.9% for 2019-20 from 7.0% earlier

On the basis of an assessment of the current and evolving macroeconomic situation, the Monetary Policy Committee (MPC) of the Reserve Bank of India at its meeting on 07 August has decided to reduce the policy repo rate under the liquidity adjustment facility (LAF) by 35 basis points (bps) from 5.75% to 5.40% with immediate effect. Consequently, the reverse repo rate under the LAF stands revised to 5.15%, and the marginal standing facility (MSF) rate and the Bank Rate to 5.65%.

The MPC also decided to maintain the accommodative stance of monetary policy.

These decisions are in consonance with the objective of achieving the medium-term target for consumer price index (CPI) inflation of 4% within a band of +/- 2%, while supporting growth.

The RBI expects the baseline inflation trajectory for the next four quarters to be shaped by several factors. First, the uptick in food inflation may be sustained by price pressures in vegetables and pulses as more recent data suggest. Uneven spatial and temporal distribution of monsoon could exert someupward pressure on food items, though this risk is likely to be mitigated by the recent catch up in rainfall. Second, despite excess supply conditions, crude oil prices may likely remain volatile due to geo-political tensions in the Middle-East. Third, the outlook for CPI inflation excluding food and fuel remains soft. Manufacturing firms participating in the industrial outlook survey expect output prices to ease in Q2. Fourth, one year ahead inflation expectations of households polled by the Reserve Bank have moderated.

Taking into consideration these factors and the impact of recent policy rate cuts, the path of CPI inflation is projected at 3.1% for Q2:2019-20 and 3.5-3.7% for H2:2019-20, with risks evenly balanced. CPI inflation for Q1:2020-21 is projected at 3.6%.

In the MPC's June resolution, real GDP growth for 2019-20 was projected at 7.0% - in the range of 6.4-6.7% for H1:2019-20 and 7.2-7.5% for H2 - with risks evenly balanced. Various high frequency indicators suggest weakening of both domestic and external demand conditions. The Business Expectations Index of the Reserve Bank's industrial outlook survey shows muted expansion in demand conditions in Q2, although a decline in input costs augurs well for growth. The impact of monetary policy easing since February 2019 is also expected to support economic activity, going forward. Moreover, base effects will turn favourable in H2:2019-20.

Taking into consideration the above factors, real GDP growth for 2019-20 is revised downwards from 7.0% in the June policy to 6.9% - in the range of 5.8-6.6% for H1:2019-20 and 7.3-5 7.5% for H2 - with risks somewhat tilted to the downside; GDP growth for Q1:2020-21 is projected at 7.4%.

The MPC notes that inflation is currently projected to remain within the target over a 12-month ahead horizon. Since the last policy, domestic economic activity continues to be weak, with the global slowdown and escalating trade tensions posing downside risks. Private consumption, the mainstay of aggregate demand, and investment activity remain sluggish. Even as past rate cuts are being gradually transmitted to the real economy, the benign inflation outlook provides headroom for policy action to close the negative output gap. Addressing growth concerns by boosting aggregate demand, especially private investment, assumes the highest priority at this juncture while remaining consistent with the inflation mandate.

All members of the MPC unanimously voted to reduce the policy repo rate and to maintain the accommodative stance of monetary policy. Four members (Dr. Ravindra H. Dholakia, Dr. Michael Debabrata Patra, Bibhu Prasad Kanungo and Shaktikanta Das) voted to reduce the policy repo rate by 35 basis points, while two members (Dr. Chetan Ghate and Dr. Pami Dua) voted to reduce the policy repo rate by 25 basis points.

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