Informist Poll

RBI Policy: Repo rate, stance seen unchanged again on Thursday

Informist, Monday, Aug 5, 2024

By Team Informist

MUMBAI – The Reserve Bank of India's rate-setting panel is expected to keep the repo rate and the policy stance unchanged this week with inflation still running above the central bank's target and growth staying robust, according to an Informist poll.

All 30 economists, treasurers, and fund managers in the poll expect the six-member Monetary Policy Committee to leave the repo rate unchanged at 6.50% for the ninth consecutive meeting. The panel had last raised the repo rate in February 2023.

An overwhelming majority of 26 respondents also see the committee continue with the 'withdrawal of accommodation' policy stance. Karur Vysya Bank was the sole poll participant who expected the panel to change the stance to 'neutral'.

The three-day rate-decision meeting begins Tuesday and RBI Governor Shaktikanta Das will detail the outcome on Thursday.

Inflation above the 4% target remains the biggest reason why the rate-setting panel is not expected to tinker with the policy rate and stance just yet. Headline CPI inflation rose to a four-month high of 5.08% in June, stopping a five-month-long disinflation trend.

The rise in inflation in June was mainly because of higher food prices, while core inflation, which excludes food and fuel items, stayed at the record-low level of 3.1%. Members of the Monetary Policy Committee in the recent past have argued about the need to be cautious on food inflation to make sure higher food prices do not lead to generalisation of price pressures.

RBI Deputy Governor Michael Patra had said in his minutes of the June meeting of the rate-setting panel that food prices held back even consideration of a softening in the policy stance, and called the economy "hostage" to intersecting food price shocks.

While inflation rose in June, it is expected to have fallen below the RBI's 4% target after 57 months in July thanks to the statistical effect of a high base, even as food prices continued to exert pressure on the headline print. In fact, the RBI projects inflation to average 3.8% in Jul-Sep.

But just one quarter with sub-4% inflation is unlikely to be enough for the RBI to pull the trigger on lower interest rates, poll respondents said. The central bank projects inflation to rise to 4.6% in Oct-Dec and 4.5% in Jan-Mar.

"The progress of the monsoon becomes crucial. While monsoon rainfall has been above average so far, risks may come from excess rains hurting yields around the harvest period, and/or deficient rains in some key producer states," Barclays said in a report. "We think the RBI will likely want to wait until the monsoon season (Jun-Sep) has finished and look for any unseasonal weather patterns after that to gauge their effect on agricultural production."

The second reason why the RBI is unlikely to lower the repo rate, or change its stance, is the relative comfort on growth. India’s GDP grew 8.2% in 2023-24 (Apr-Mar), faster than any other major economy, and the RBI projects it to expand 7.2% this year.

High frequency indicators, too, suggest the economy has maintained the robust growth momentum this year. According to the RBI’s economic activity index, GDP growth in Apr-Jun was trending at 7.4%, higher than the central bank's forecast of 7.3% made at the last meeting of the Monetary Policy Committee.

Had growth not been so robust, the calls for a looser monetary policy would have been much louder, poll respondents said. At the June meeting of the rate-setting panel, external members Jayanth Varma and Ashima Goyal voted in favour of a 25-basis-point repo rate cut. Both said a real interest rate of 2%--the repo rate net of the projected CPI inflation of 4.5% in 2024-25--was too high and would lead to a growth sacrifice. As such, there was a need to lower the repo rate, Varma and Goyal said.

The RBI members, on the other hand, have differed on whether real interest rates are so high as to lead to a growth sacrifice.

A recent RBI study, published last month, showed that the natural rate of interest--the real interest rate that is neither expansionary nor contractionary for the economy--rose to 1.4-1.9% in Jan-Mar, compared to 1.1-1.3% in Oct-Dec 2021. The natural rate of interest had risen because of an increase in the potential output of the economy.

Das went a step ahead a day after the release of the study to say that the natural rate of interest is just a theoretical abstract concept and cannot determine monetary policy in the real world.

Poll respondents expect Varma and Goyal to continue to dissent at this week’s meeting as well, which will be the last for the current set of external members, including Shashanka Bhide.

A development that may play on the minds of the committee members is the evolving economic situation in the US, where a slew of recent economic data has increased expectations of a 50-bps rate cut by the US Federal Reserve in September.

RBI officials have time and again said that while the central bank looks at the global situation, it takes calls on the basis of the condition of the home turf.

"We find that historically, the RBI's monetary decisions have typically focused first on inflation, then on growth, and have been generally independent of the Fed," Barclays said. "In the current scenario too, the RBI does not need to follow the Fed as volatility in the INR (rupee) is at historical lows, and despite a very narrow rate differential with the US, foreign inflows have surged on IGBs’ (Indian government bonds') index inclusion."

The economic situation back home is such--with above-target inflation and strong growth--that expectations of lower interest rates are moving further and further away.

After the June meeting, a section of the market still saw a small chance that the Monetary Policy Committee may cut the repo rate in August. But the June inflation print changed that entirely.

Just one poll respondent sees a repo rate cut in the October meeting. Four participants said they expect the first cut in Oct-Dec, while eight see it in December. In fact, nine respondents said they see a rate cut only in 2025, with six expecting it in February.

Following are the expectations of respondents on the repo rate decision and policy stance by the Monetary Policy Committee on Thursday, and the expectation of the first repo rate cut:

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Written by Shubham Rana

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