'No further rate hikes if inflation continues along intended glide path'

Reserve Bank Governor Raghuram Rajan did not spring any surprises on Tuesday.

He kept key policy rates unchanged in the central bank’s first bi-monthly monetary policy announcement.

As expected, the RBI retained at 8 per cent the rate at which it provides overnight funds to banks (also known as the repo rate).

The amount of cash that banks have to park with the RBI — the cash reserve ratio — has also been left unchanged at 4 per cent of deposits.

With the RBI holding its policy rates steady, banks are unlikely to tinker either with deposit or lending rates.

After hiking the repo rate thrice, by 25 basis points each, in the September 2013 to January 2014 period, the RBI chose to take a breather as inflation, both retail and wholesale, rates eased.

Moreover, with economic growth concerns remaining significant (GDP growth was sub-5 per cent for seven successive quarters) and factory output stagnat for two successive years, the RBI may have had no choice but to stay put.

“At the current juncture, it is appropriate to hold the policy rate, while allowing the rate increases undertaken during the September 2013-January 2014 period to work their way through the economy,” said Rajan.

“Furthermore, if inflation continues along the intended glide path (8 per cent retail inflation by January 2015 and 6 per cent by January 2016), further policy tightening in the near term is not anticipated at this juncture.”

Even as it held policy rates steady, the RBI further reduced the quantum of overnight funds that banks can borrow from it while commensurately expanding their access to term money (of seven and 14 days duration). The primary objective of this move is to improve the transmission of policy impulses across the interest-rate spectrum.

Likely risks

On inflation, the Governor cautioned that there are risks to the forecast of 8 per cent retail inflation by January 2015. The risks include a less-than-normal monsoon because of the possible El Nino effect, the uncertainty on minimum support prices for agricultural commodities and other administered prices, and the outlook for fiscal policy.

Excluding food and fuel, however, retail inflation remained sticky at around 8 per cent.

This suggests that some demand pressures are still at play.

Contingent upon the desired inflation outcome, the RBI said, real GDP growth is projected to pick up from a little below 5 per cent in 2013-14 to a range of 5 to 6 per cent in 2014-15, albeit with downside risks to the central estimate of 5.5 per cent.

Political worries

On the possibility of the new government not being stable, the Governor said: “Clearly, the markets right now are anticipating a stable government and rapid policy action.

“And to the extent that markets are disappointed, it will reflect on stock markets, perhaps on bond markets, perhaps on exchange markets. We have to be prepared for some turmoil.”

(This article was published on April 1, 2014)
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