RBI seen as postponing the inevitable

Status quo on rates seen as temporary comfort, with inflation data ensuring a rate rise in Jan

The Reserve Bank of India (RBI)’s status quo on key policy rate has raised expectations of a rise in the third-quarter monetary policy review or maybe even before.

The Street had anticipated a rise of 25 basis points (bps) in the repo rate. Yet, to not harm growth unduly, RBI Governor Raghuram Rajan kept the repo rate (at which it lends to banks) unchanged at 7.75 per cent.

However, RBI reiterated that current inflation was too high. According to RBI, if inflation excluding food and fuel does not fall, the central bank will act, including on off-policy dates, if warranted.

HIKE IMMINENT?

• RBI kept the repo rate unchanged at 7.75 per cent, contrary to Street expectations of a hike of 25 basis points
• Economists are of the view that Wednesday’s decision is a postponement of a repo rate hike due to inflation concerns
• There is expectation of a hike in repo rate by 25 bps either during the third-quarter monetary policy review scheduled for January 28 or after the release of inflation data for December in mid-January

“Given the concerning trend in inflation expectations, not to mention the uncertainty facing India from a possible earlier than expected ‘tapering’ of asset purchases by the US Federal Reserve, today’s (Wednesday’s) decision likely only delays the inevitable and impedes the long and painful process of re-anchoring inflation expectations and firmly establishing central bank credibility,” said Richard Iley of BNP Paribas.

He continues to target a rate rise of 25 bps, either following the December inflation data issued in mid-January or at the scheduled January 28 policy review. Besides, his inflation forecasts suggest a further hike of 25 bps might be needed after that as well.

Consumer Price Index (CPI)-based inflation rose to 11.24 per cent in November, compared with 10.17 per cent the previous month. Wholesale Price Index (WPI)-based inflation data for November rose to 7.52 per cent, compared with seven per cent in October.

Few economists see stability in WPI-based inflation. But they fear a rise in CPI-based inflation. “RBI has effectively given itself a one-month window to see if inflation actually eases in December, to decide on future monetary policy action. Our forecast shows December WPI-based inflation to be at 7.5 per cent (the same as in November) but CPI-based inflation to rise to 11.6 per cent, from 11.2 per cent in the previous month, despite some softening in food prices. Since RBI’s guidance about requiring a substantial easing of headline and core inflation would not be satisfied by this out-turn, we expect a 25 bps rate hike next month, probably even before the monetary policy review on January 28,” said Taimur Baig and Kaushik Das of Deutsche Bank.