RBI stands pat

On Tuesday, the Reserve Bank of India met to decide on interest rates. Every Tuesday morning, my column in MINT newspaper appears. In this morning’s column, I had urged the Reserve Bank of India to cut the repo rate by 50 basis points and move to a neutral stance. RBI left interest rate, CRR, SLR unchanged and maintained an accommodative monetary policy stance. So, the RBI Governor did not read my column; or, he read my column and did not agree with it.

Clearly, there is a variance in expectation for the global economy. RBI feels that “Global growth is likely to firm up through 2015 and 2016, supported by stronger recovery in the advanced economies (AEs) and soft energy prices.” It is always an interesting exercise trying to figure out cause and effect between softer energy prices and weaker global economy. Not sure whether soft global energy prices would drive global growth going forward or that it was caused by weak demand in the first place. My outlook on the world economy is rather different. Whether or not the United States thinks that the first quarter slowdown is transient, RBI seems to think so (“Growth in the United States is likely to have been weak in the first quarter of calendar 2015, partly because of US dollar appreciation, but is expected to strengthen.”) Goldman Sachs thinks so too. But, no major US broker has ever predicted a stock market crash, ex-ante. If that happens, the economy will also slow drastically.

RBI has not seen the interview by Mr. Ashok Gulati, former Chairman of the Commission for Agricultural Costs and Prices (CACP). He is now with ICRIER. He expects zero to marginal agricultural growth in the current calendar year. RBI has not taken the unseasonal showers and their impact that seriously yet. One hopes that the government does not make the same mistake!

Third, MINT has published a good analysis of the new GDP estimates made by the CSO. There has been an egregious overestimation of the corporate sector output. RBI has not taken much cognisance of that report.

Finally, although the RBI press release is dotted with reference to weak demand conditions (“upside pressures affecting prices of services such as education, health and other services have also fallen on account of weak demand conditions” and “non-oil non-gold imports grew at a modest pace in these months, they may be reflecting substitution effects in view of the sluggishness in domestic manufacturing.”), they do not seem to have persuaded the Governor to cut rates. In defence of the RBI decision to hold rates unchanged, RBI could have said that the first quarter slowdown in demand was due to efforts aimed at containing the fiscal deficit and that it would like to look through that induced slowdown. It was silent on this aspect.

Looks like the central bank wants to be surer of disinflationary tendencies before committing to actual rate cuts. Its forecast for terminal inflation rate in 2015 is 5.8%.  If one invested 100% faith in that forecast, then no rate cut is really feasible unless the central bank is convinced in the months ahead that its projection was on the high side. It is unlikely that there is much new information in the next couple of months before RBI meets again on June 2, for it to drop rates further. Perhaps, it might do so if the Government managed to get its amendments to the Land Acquisition Bill through the Rajya Sabha (“Third, the Reserve Bank will look to a continuation and even acceleration of policy efforts to unclog the supply response so as to make available key inputs such as power and land”).

Since RBI has explicitly maintained an accommodative stance (‘bias to ease’), there is a theoretical window to cut rates by 25 basis points or more in June. But, instinctively, I doubt if it would happen, given the projection made by the RBI for domestic inflation rate. Also, I must admit, if RBI were right and I am wrong about the US economy, the chatter about a US rate hike would be louder and closer in June than now. That is why I wrote about the window of opportunity to cut rates being wide open in April.

Hence, perhaps, the window for a rate cut in 2015 has passed. One hopes that the second half of the year is not rough for India. If the normal monsoon fails as well on top of the unseasonal showers this March and with the corporate sector in doldrums, then India will be in for a rough ride. If the BJP suffers an electoral reverse in Bihar, etc., then the India story might be over by end-2015 and it might take a big deal of effort to revive it, if it were possible at all.


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