India's next rate cut more likely after government presents budget

By Rafael Nam

MUMBAI (Reuters) - Reserve Bank of India is expected to wait until after the government's annual budget statement at the end February to decide on whether to cut interest rates further, rather than take the plunge at a policy review on Tuesday.

Having cut the policy repo rate by 125 basis points in 2015, Reserve Bank of India Governor Raghuram Rajan warned on Friday against straying from the path of fiscal consolidation or relaxing the fight against inflation.

The timing of Rajan's safety first message wasn't lost on analysts.

The government is due to deliver its 2016/17 budget on Feb. 29 along with plans on how it intends to stagger a 24 percent increase in salaries and pensions for some 10 million current and former government employees.

If the fiscal deficit stays within reason, then inflation trends over coming months could also favour hopes for lower interest rates.

Oil prices near 13 year lows and seasonally subdued food prices should help bring inflation down to the RBI's target of below 5 percent by March 2017, after it hit a 15-month high of 5.61 percent in December.

"Inflation will come off in the middle of the year and there will be an opportunity to cut either inter-meeting or in April," said Radhika Rao, an economist for DBS Bank in Singapore.

"Whether the government's fiscal deficit is adjusted higher and how the pay commission proposals are implemented will be important factors for the RBI to consider."

Only two of 39 economists polled by Reuters expect the Reserve Bank of India to cut interest rates on Tuesday. The rest predicted the policy repo rate would be left unchanged at 6.75 percent.

But more than half of them saw scope for at least a 25 bps rate cut by the end of June thanks to the reduced inflationary pressures, with saying the reduction could come as early as March.

For now, the RBI is waiting to see the benefits of earlier rate cuts filter through, and Tuesday's policy statement could contain another call for commercial banks to lower their lending rates further after most reduced them by only around 60 bps last year.

Keeping rates on hold at the last policy review in December, the RBI reiterated that it remained on an "accommodative" path that will help give more momentum to economic growth.

But there is growing impatience with Prime Minister Narendra Modi's government to deliver stronger growth, as vaunted economic reforms keep getting delayed.

The headline growth rate looks very creditable at projected 7.2 percent for the year ending in March. But private sector investment remains weak, and India needs sustained growth of around 8 percent to generate jobs for its growing workforce.

Analysts expect India's budget to slightly raise fiscal deficit targets to free up money for investment in infrastructure projects, while keeping subsidies and other spending under control.

 

(Editing by Simon Cameron-Moore)