RBI POLICY – Growth Focus with a Calibrated Cut

07 AUGUST 2019

The Third Bi-Monthly Monetary Policy Statement for FY 2019-2020 was released by the Reserve Bank of India (RBI) on 7th August 2019. Following were the highlights.

1. Repo rate was cut by 35bps to 5.40% with immediate effect.

2. Stance left unchanged at “accommodative”

Consequently, the reverse repo rate and the marginal standing facility (MSF) rate / Bank rate stand adjusted to 5.15% and 5.65% respectively.

The Monetary Policy Committee (MPC) voted unanimously to reduce policy rates and maintain the accommodative stance, however the quantum of the rate cut was a split (4-2) decision. With the fourth consecutive rate cut, the RBI has reduced the repo rate by a cumulative 110 bps since February 2019.

The MPC expects CPI inflation to remain below the 4% target over the next 12 months. Noting the recent pick-up in monsoons and soft outlook for CPI ex- food and fuel, the MPC left its inflation projections for FY20 broadly unchanged at 3.1% for 2QFY20 and 3.5-3.7% for 2HFY20. CPI for 1QFY21 is expected at 3.6%.

Acknowledging weakening external and internal demand conditions, the RBI highlighted the need to boost aggregate demand, especially private investment as the “highest priority”. The MPC revised down its GDP growth forecast for FY20 to 6.9% YoY (from 7.0% estimated in Jun19), with 1HFY20 growth estimated at 5.8-6.6% YoY (down from 6.4-6.7% estimated in Jun19) and 2HFY20 at 7.3-7.5% YoY, with risks tilted to the downside. GDP growth for 1QFY21 is projected at 7.4% YoY.

10 yr G-Sec movement around the current & previous RBI Policies

Source: Bloomberg

Assessment & Outlook

Citi analysts expect policy decisions to be growth dependent in the near term, rather than inflation dependent. A clear focus on supporting growth and the unanimous decision by MPC members to maintain the “accommodative” stance leads Citi analysts to expect the rate-cut cycle to extend beyond October 2019. Citi analysts now expect the RBI to deliver a 25bps reduction in Oct19 and another 15bps reduction in Dec19, taking the terminal rate to 5.0%. However, given India’s high real policy rate compared to Asian peers, the RBI may opt for deeper rate cuts if growth indicators fail to pick-up in 2HFY20, in line with RBI’s growth projections.

INR has depreciated ~3% so far in Aug19, under pressure from global headwinds and weak FPI flows, however, a ~9.7% fall in crude oil prices in the same period has helped improve India’s current account deficit (CAD) outlook. Citi analysts expect INR to trade within 69.5 – 72 range in the near term, contingent on external headwinds. Bond yields are expected to drift lower amidst easier liquidity condition, reduced risk of fiscal slippage and continued weakness in growth indicators. Citi analysts see 10yr G-sec yields approaching 6.0% over the next few weeks (from 6.37% as on 7th Aug19).

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