The Third Bi-Monthly Monetary Policy Statement for FY 2018-2019 was released by Reserve Bank of India (RBI) today. Following were the highlights.

  1. Repo Rate has been increased by 25 bps and now stands at 6.50%.
  2. However, the “Neutral” stance was retained.

Consequently, the reverse repo rate and the marginal standing facility (MSF) rate / Bank rate also increased by 25 bps and now stand at 6.25% and 6.75% respectively.

This rate hike was widely anticipated as indicated by a Bloomberg survey of 53 respondents out of which 40 expected a 25 bps hike. Even though the monetary policy committee (MPC) chose to go with a successive hike, they stuck with the “neutral” stance and indicated in the post-policy press conference that they intend to keep options open.

RBI believes that growth continues to be strong, as indicated by Index of Industrial Production (IIP), Services Purchase Mangers’ Index(PMI) and other high frequency indicators. Based on an overall assessment, the RBI has retained its GDP growth forecast for FY19 at 7.4% (in the range of 7.5-7.6% in H1 and 7.3-7.4% in H2), with risks evenly balanced.

On the inflation front, based on their assessment of a multiplicity of factors viz. Minimum Support Price (MSP) hike, monsoon performance, crude oil prices, Goods & Service Tax (GST) reduction on several goods and services, rising input costs and their greater pass through due to improving demand conditions, they have slightly tweaked their inflation forecast. The Q2FY19 consumer price inflation (CPI) forecast stands at 4.6% vs 4.8% earlier, while H2FY19 CPI forecast stands at 4.8% vs 4.7% earlier with risks evenly balanced. They have introduced the Q1FY20 CPI forecast at 5.0%.

10 yr G-Sec movement around the previous RBI Policy announcements

Source: Bloomberg

Assessment & Outlook

The introduction of 5.0% CPI forecast for Q1FY20 along with persistent and sticky elevated core CPI, may have prompted RBI to go in for successive hikes. Even though these rate hikes appear to be frontloaded, the hiking cycle may not be completely over yet. If RBI forecasts of CPI inflation do materialize, then CPI would effectively stay above 4% target for at least 20 months. The policy document and their comments in the press conference, reiterate their commitment to achieving the medium-term target of 4% CPI on a durable basis. This persistent divergence may trigger a change in their “Neutral” stance in the next few policy announcements and that needs to be watched out for.

Citi economists believe that this divergence between forecast and commitment will keep the risk of hiking cycle extending a bit further than their earlier estimates. Their own CPI forecast of 4.8% in FY19 and ~ 4.5% in FY20 suggests that the hiking cycle may still remain shallow. They earlier expected a 50 bps hike in FY19, but now pencil in another 25-50 bps hike in FY19.

The 10 yr G-sec closed @ 7.701%, down slightly from the previous close of 7.773%. Citi economists believe that the trend of higher CPI inflation forecast, risks of fiscal slippage, healthy assessment of growth and RBI’s commitment to 4% inflation target may prevent any sustained downtrend in yields. Clients may continue to avoid any fresh long duration exposure and remain diversified in their fixed income portfolios.



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