The market is broadly expecting that the RBI will maintain status quo on policy rates in the upcoming MPC (Monetary Policy Committee) meeting. However, the critical factor to watch out for is the indication given by the central bank regarding its future course of action.

India’s GDP growth in the third quarter of FY24, at 8.4 per cent, turned out much higher than expectations. This has taken the overall GDP growth estimate for FY24 to a high of 7.6 per cent. While it may be argued that the sharp jump in third quarter GDP is because of the spike in net taxes, the overall GVA (gross value added) growth also remains healthy. This is not to deny that weak consumption trend remains a concern. Private consumption is estimated to have grown by 3 per cent in FY24 as against pre-pandemic growth of 7.1 per cent (FY19).

CPI inflation remains above RBI’s 4 per cent target, but core inflation has been below 4 per cent for the last three months, with continued disinflation in the services sector. Food inflation at a high of 7.8 per cent (latest February data) remains a concern, with very high inflation for vegetables (30 per cent), pulses (19 per cent) and spices (14 per cent). The continued geopolitical rifts also pose a risk for commodity prices, specifically crude oil prices.

Rate cut expectations

On the global front, markets have reduced their expectations on quantum of rate cuts by some of the major central banks. With US inflation turning out stickier than anticipated, the market is now expecting FOMC to cut policy rate by 75 basis points (bps) in 2024 as against earlier expectations of 100 bps. On the external sector, FII inflows into India have been strong in the last few months, specifically in the debt market. In the last three months, India has received FII inflows of $6.7 billion in the debt market. Moreover, the CAD (current account deficit) data released for the third quarter also turned out to be benign at 1.2 per cent of GDP.

With services exports remaining healthy, we are expecting CAD at around 0.7 per cent of GDP in FY24 and around 1 per cent of GDP in FY25. Going forward, FII inflows are expected to remain strong, with the inclusion of India in the global debt indices. This implies that even with the persisting global slowdown, India is likely to be comfortable on the external sector front.

So, what can we expect from the central bank in the upcoming MPC meeting? With growth not an overarching concern, we expect the RBI to remain cautious on the inflation front. Core inflation including services inflation has been moderating in the economy, but with food inflation remaining sticky, the RBI would be wary. The supply-side measures taken by the government has helped somewhat in containing food inflation, specifically for cereals. Food inflation could moderate based on the assumption of normal monsoon this year. The comfort on the external sector front gives room to the RBI to wait and watch.

The RBI is likely to maintain the growth projection for FY25 at 7 per cent and CPI inflation projection at 4.5 per cent. The focus of the central bank will be on liquidity management as necessary to support credit demand without being inflationary. We could see some measures announced by the RBI to absorb the increased FII inflows into the debt market expected from index inclusion.

Going forward, the central bank is likely to look at a neutral real rate of interest of around 1-1.5 per cent. Hence as inflation moderates to around 4.5 per cent and as US Fed starts cutting rates, we can expect the RBI to go for a shallow rate cut of around 50 bps in two tranches starting Q3 FY25.

The writer is Chief Economist, CareEdge