Express news service
NEW DELHI: If one thing is clear from the August Policy Review, it is that the Reserve Bank of India (RBI) is now looking to move beyond its accommodative top position. On Friday, the six members of the central bank’s Monetary Policy Committee (MPC) voted unanimously to leave the key repo rate unchanged at 4%. However, opinions are divided (with a majority of 5: 1) on maintaining an accommodative stance in a context of relentless inflationary pressures. However, for now, the priority remains to sustain growth until the data improves significantly.
“The drivers of supply (of inflation) could be transient while the pressures driven by demand remain inert, given the slowing economy,” said RBI Governor Shaktikanta Das, adding that a preventative monetary policy response at this point could kill the “nascent and hesitant recovery” which is trying to gain a foothold under extremely difficult conditions. The governor pointed out that high-frequency indicators suggest that consumption (private and public), investment and external demand are all on the road to recovery, even though current production levels remain below their level of recovery. before the pandemic.
Going forward, however, the RBI expects demand to pick up widely with easing restrictions. Mainly, a strong outlook for agriculture and rural demand will boost private consumption. Early results from listed companies also show that companies have been able to maintain their healthy growth in sales, salary growth and profitability, led by IT companies, which the board says will also support the aggregate disposable income of consumers. The economic recovery, Das said, would also be supported by dynamic exports, expected higher government spending and recent government policy measures. However, investment demand may not improve immediately. Consumer confidence also remains low for the time being. But, results from the July cycle of the RBI’s Consumer Confidence Survey suggest that year-ahead sentiments have returned to optimistic territory after historic lows.
Considering all these factors, the RBI kept its projection for the current year at 9.5%, while the growth figures for the first quarter were revised up to 21.4% from 18.5%. according to the June forecast. The figures for Q2-Q4, however, have been lowered considerably. Real GDP growth for the first quarter of fiscal 23 is expected to increase 17.2% in the absence of a third wave of turmoil.
At the same time, more worrying is the inflation projection, which has been substantially revised upwards to 5.7% (from 5.1%) for FY22. It can be noted that headline inflation rose sharply in May and June, exceeding the 6% threshold, thanks to high crude oil prices and the subsequent rise in freight costs. Even then, the RBI had said that “inflation is largely transient”. Now the central bank expects it to hit 5.9% in the second quarter and moderate to 5.3% and 5.8% in the third and fourth quarters, respectively. That’s not all. RBI said inflation will remain near the upper band of the inflation target of 4% (+/- 2%) until the first quarter of next fiscal year.
“We believe that managing inflation could pose a serious challenge when the pass-through from the high fuel price begins to occur and therefore the inflationary shock is unlikely to be transient, even by definition,” says Soumya Kanti. Ghosh, Group Chief Economic Advisor, State Bank of India. Interestingly, the contribution of fuel, edible oil and pulses is currently over 50% to rural headline inflation. In addition, the second wave has a considerably large fat tail and rural cases continue to be above 40% in new cases, although rural recovery continues to be uneven. “This will put further upward pressure on rural inflation,” Ghosh said, adding that over the past year almost all of the inflation numbers – headline, core, rural and urban – converge closely. of 6%, which implies that inflation may not be transient.
Normalization calibrated on liquidity
Even though the latest policy meeting tried to tread a tightrope by trying to differentiate its liquidity maneuvers from the accommodative position of policy rates, economists say the current position may not prevail for too long.
In fact, a dissent from MPC member Professor Jayanth Rama Varma and the reintroduction of Reverse Variable Rate Auctions (VRRRs) are widely seen as the start of his impending exit from unconventional monetary easing. On Friday, the RBI doubled the VRRR quantum to Rs. 4 lakh crore and there are plans to conduct four VRRR auctions worth 13 lakh crore until the end of September.
These auctions, Das repeatedly said, should not be interpreted as a reversal of accommodative policy, but economists and the markets disagree. “Recognizing the excessive build-up of systemic liquidity, we have seen the RBI take its second step towards some form of liquidity normalization. The first being the tolerance for an upward adjustment of the 10-year yield in July, ”noted Abheek Barua, Chief Economist, HDFC Bank. Daily systematic excess liquidity rose from Rs. 4-5 lakh crore in May to over Rs. 8.5 lakh crore in August due to the slowdown in the currency in circulation.
Aurodeep Nandi, economist, Nomura also endorsed this opinion.
“We think the liquidity maneuvers suggest, at the very least, that the RBI is uncomfortable with the large amount of floating liquidity. As such, allowing bond yields to gradually rise and issue more VRRRs is a first step towards liquidity and policy normalization, ”he said. For RBI, the next step, Nandi added, would be to pull out of sustainable injectors of liquidity, followed by a narrowing of the policy corridor and finally an increase in the key repo rate. “In our baseline scenario, we forecast a 40bp increase in the reverse repo rate in the fourth quarter of 2021 (October-December), followed by 75bp increases in the reverse repo and reverse repo rates in 2022. “
In general, the policy has been limited to granting an extension of deadlines for some of the existing regimes.
This includes extending the TLTRO on-the-fly deadline for stressed sectors (including NBFCs) by an additional three months until December. Likewise, the three-month extension of the ceiling of the permanent marginal facility will provide banks with a margin of liquidity. The RBI is also purchasing public securities of Rs. 25,000 crore on the open market on August 12 as part of the G-sec acquisition program (G-SAP 2.0). “Still, bond yields would remain at high levels. We expect the 10-year benchmark bond to reign around 6.2-6.3% for the next 1-2 months. It is unlikely to drop below 6.2% as concerns over the government’s borrowing program and GST clearing pressures continue to raise concerns, ”said Madan Sabnavis, chief economist at Care Ratings . Stock indices and benchmarks both fell after the policy was announced as the national currency strengthened against the dollar. Bond yields rose to 6.24% on Friday from 6.2% a day ago.