The Reserve Bank of India on Wednesday decided to keep interest rates unchanged against a widely-expected 25 basis point rate cut. The Monetary Policy Committee also decided to withdraw incremental cash reserve ratio (CRR) on deposits between September 16 and November 11.
The withdrawal of incremental CRR from December 10 is a welcome move, says Soumya Kanti Ghosh, Chief Economic Advisor, State Bank of India. It was adding costs to the MCLR (marginal cost of funds based lending rates) and would be a relief to banks.
The RBI has kept in the mind the possible rise in crude prices when keeping the rates unchanged, says Sajjid Chinoy, Economics, JPMorgan. A sudden surge in crude prices could create inflationary pressure on the economy.
Pronab Sen, former principal adviser, Planning Commission, lauded the Monetary Policy Committee's move as a sensible decision. He also said markets are in turmoil and at this stage and a definitive signal would have been bad. He further said he hopes that by March 31, monetary base will be restored.
Bankers Atul Kumar Goel of Union Bank and Anshula Kant, Deputy Managing Director & Chief Financial Officer, State Bank of India are very happy with the fact that incremental cash reserve ratio (CRR) on deposits between September 16 and November 11, has been withdrawn effective December 10. While the Cash reserve ratio (CRR) or percentage of deposits required to be maintained with the RBI is retained at 4 percent. While the Cash reserve ratio (CRR) or percentage of deposits required to be maintained with the RBI is retained at 4 percent.
Kant says it is a surprise that there is no rate cut by the RBI but downtick in growth forecast by half a percent is not so bad in times of uncertainty.
According to Goel, with the rollback of CRR, the balance sheets of banks will look good and there could be scope for banks to pass on that benefit to customers.
Kant says it is good news that whatever has been deposited on a daily basis in the banks, in the last few days has been withdrawn, which means cash is back in circulation.
KVS Manian of Kotak Mahindra Bank believes with the CRR load going off post December 9, give some flexibility to cut rates at that point in time.
B Prasanna, ICICI Bank says the key positives from the policy are that one, the central bank is still focused on targeting inflation. The decision also shows the autonomy of the Central Bank. However, Prassanna is disappointed with the no rate cut.
Latha: They say the withdrawal of specified bank notes (SBNs) could transiently interrupt some part of industrial activity in November-December due to delays in payment of wages and purchase of input, although a fuller assessment is still awaited. In services the outlook is mixed with construction, trade, transport, hotels, communication impacted. While public administration, defence, other services would be buoyed by the Seventh Central Pay Commission award. They also say inflation excluding food and fuel continues to show strong persistence that seems to be their biggest worry as well as crude and also element of the food elements of the food inflation basket and noted this on currency, currency in circulation plunged by Rs 7.4 trillion up to December 2 consequently net of replacements, deposit surged into the banking system leading to a massive increase in excess reserves. How would you read this, will there be any space for banks to cut rates and generally are you seeing space for another cut at all?
Ghosh: I am a little bit surprised about the RBI policy, because on the one hand it is cutting their growth forecast drastically from 7.6 percent to 7.1 percent and on the other hand it is actually showing an upside risk to inflation — purely I think it is because about their thinking of the crude prices that I think is the concern, but my bigger concern is that I would like to know more about the incremental CRR part, because without that getting abolished — the banks will not get a signal to transmit the MCLR rate cuts.
Even if I take into stride that there are no rate cuts possibly there is upside risk to inflation at 5 percent by March 2017, but a larger clarity and picture should emerge on the CRR maintenance so that banks could take solace from the fact and start decide on the next step of transmission, because that is not clear from the policy if what you read out to us.
Latha: At least now there is no drain, you are all not losing money on deposits, your loss is whatever you loss for two weeks?
Ghosh: I think if that is done I have not seen the press statement, but if that is done that is a welcome step which has been taken and now it will be easier for the banks to feel a little better, because as I had said earlier also this was adding to the cost of MCLR — once that has been withdrawn so that incremental cost will go and obviously there will be some impact on the MCLR in a positive manner.
Sonia: What you expected came true there is no movement on the rates this time around and in all likelihood at least from the hawkish commentary you get a sense that perhaps they may not be any rate movement for a while. How do you read into the fine print of the policy?
Sen: It is very sensible, at the moment the markets are in turmoil and at this stage to give a definitive figure I think would have been a bad idea. So, what the RBI has done is essentially say that look we really don’t know and you guys out there who are actually dealing on the floors you take your own call on it. We are not giving you a direction.
Latha: They have continued to maintain a 5 percent inflation for March 31st and they believe that the impact of the note exchange is going to be transitory, are you getting a sense that there will be any future scope of rate cuts, if yes how much?
Sen: What the RBI is saying is very straight forward which is that hopefully by March 31st the monetary base would have been restored in which case what you should expect to see is a temporary dip in inflation rate and as liquidity goes in the hands of the public the prices would go back to what they should have been otherwise and that is a perfectly logical way of looking at it.
Anuj: I want your first thoughts. We were discussing 50 or 25 as given but no rate cut?
Chinoy: We did say that there was a lot of uncertainty and the uncertainty was what the Monetary Policy Committee (MPC) thinks will be the growth impact, is it near-term or medium-term. And we had said earlier whether this is a demand shock or a supply shock. So, its a surprise. But what one should glean from this is that the MPC worries that the supply shock to the economy from rising crude prices and possibly through demonetisation is equally as important as the demand shock which is why they have not reduced their inflation forecast. Now if you have not reduced your inflation forecast and you believe inflation is still at 5 percent, then there is no space to cut because that is their primary mandate. Any cut today would have been predicated on the MPC believing that any demand compression in the near-term puts downward pressure on the 5 percent target. If you do not believe that, then it is understandable why they have not cut.
Latha: I want some final thoughts from Sajjid before I let you go. Could you detect anything about next year? We were not allowed to ask questions. We got only one chance. Rs 11.5 lakh crore has come back, but now that is a moot point. Whether Rs 11 lakh crore comes, Rs 12 lakh crore comes, they are not going to give any dividend. So, it really does not matter now. That is a moot point. More important issue is what did you take away in terms of quality in growth and inflation and therefore, any further rate action. What should the bond and equity markets take away?
Chinoy: What we can all agree on is we are operating in assuming a great deal of macro uncertainty and what the MPC did while it was distant from what many of us expected, it was perfectly legitimate because their assessment is twofold. They assume that the hit to growth is going to be much more transient and much more V-shaped. If you look at their forecast, it is 7.1 percent gross value added (GVA) for the full year. Remember, the first half GVA was 7.2 percent. So, what the MPC is assuming is second half will only be 7 percent.
Now that is good news because only the RBI knows how quickly the economy will be remonetised. So, clearly, what this perhaps suggests is that the remonetisation will be faster than most expect. In fact, the numbers they gave out between November 27 and December 5, the number of new notes that were released had moved 2.5 trillion to 4 trillion. So, what I took out from this is A the RBI is much less concerned about a medium-term wealth effect and it is much more confident that this is a much more transient impact on demand, number one.
And number two, there is not just a demand shock, there is a supply shock here. Twice, the policy statement talks about oil prices and maybe short-term disruptions to food. Now, if you believe both those things that the growth impact is limited and it is both demand and supply, then you have a perfectly legitimate response to stay on hold for the moment. And mark down growth without marking down inflation.
Latha: Is there a scope for a rate cut now?
Kant: That is not really the relevant question at the moment. As a banker, I am happy that the temporary cash reserve ratio (CRR) has been rolled back very unequivocally. There has been no increase in the CRR and today, while it is a little surprising that there was no cut, but given the uncertainties related to the impact of demonetisation, I think RBI giving a GVA guidance of only half a percentage lower is encouraging. The fact that they see some upside to the inflation, it is too early to predict what the final impact of demonetisation will be and that is what the regulators have taken into account. As a banker in today’s situation of low credit offtake and liquidity being as important as it is today, I am happy that the temporary CRR has been rolled back.
Latha: What did you make of the statement, ‘limits under review’? the withdrawals limits are constantly under review and the exact date will be decided. Anything you took away?
Kant: Actually, if RBI could not give you a final answer on this, who am I to give you that answer? The good thing that we are seeing in our bank today is that since the last few days, at least whatever has been deposited on a daily basis is getting withdrawn. Sometimes even more than that. So, at least the cash is going back into circulation. That is a good sign. But how much time it will take for the entire currency to get replaced and the withdrawal limits to go off, I will not be able to speculate on that.
Latha: There was a last question which was asked and Mr Gandhi answered. When will the limits of withdrawal be removed and he said limits are constantly under review and the exact date will also be decided. Very specifically on that, what did you get a sense that the withdrawal date will be advanced or will it be pushed back? It looked like either could happen. What did you take away?
Goel: It is a very welcome view - lifting of the additional CRR. It is a good move. Even without the rate cut, we are hopefully that banks should be able to transmit the rate because bank balances will be benefitted and benefit whatever the bank will get, it will be passed on to the customers by way of transmission in the rates.
Latha: No rate cut, but the CRR load is rolled back. Does it give you space to cut rates?
Manian: Yes, post December 9 when the CRR load goes off, it does give some flexibility to cut rates at that point in time. Broadly, I would say the markets generally expected the rate cut to be 25 basis points. That would have given more flexibility to cut rates. But having said that, even without that, with the CRR load going it should help.
Latha: What else did you takeaway from the policy? Did you get any sense at all about the withdrawal date being pushed back, pushed forwards, raised?
Manian: The other key takeaway was that the RBI has downgraded the growth projections by 0.5 for the year. But 0.5 for the year means the impact for the four months is much more than that. And that, I would say, is somewhat like many market players had predicted. So, it seems like 1-1.5 percent decrease in the last four months. Generally, the sense I got was that things will get back to normal but, be more patient.
Latha: What was your key takeaway on the 10-year or on the bond markets? What is the future trajectory that you can take away from everything that was said?
Prasanna: We were a little disappointed on the fact that the 25 basis point rate cut did not flow through because it was our house call. But let me lay down 2-3 positives that I feel which we can take back from this policy. The first one is the fact that there is absolutely no compromise on the fact that we are still a very much inflation targeting central bank. So, very clearly, the focus is on for RBI to see inflation rates going lower before they get the comfort to go ahead and cut rates. The second thing what I wanted to say is the fact that there were a lot of questions which were being asked about the independence of the central banks. So, we have come out with flying colours in that respect.
We can take a lot of comfort from that as well. So, my reading, other than these two is the fact that RBI has looked at a lot of this data and they are looking at it from a very transitory perspective and the way I would look at it is they have bought some time to further analyse incoming data and then take a call. The only aspect where I was actually disappointed was the fact that even from an inflation perspective, I thought we were clearly undershooting the target of RBI which is 5 percent by March, 2017. So, I would have presumed that there was justification for a rate cut purely from an inflation undershooting perspective even before the demonetisation actually came. So, the demonetisation reasons actually gave further reasons for the markets to anticipate 25 to 50 basis points. It is only on that aspect that while we expect inflation to actually underscore RBIs level, we are a little disappointed that they have not given the rate cuts which the markets were expecting.
Latha: So, how would you trade the 10-year? With anticipation that in February when the numbers come in more according to what market is guessing ¬– and market is guessing is closer to 4.5, that is what our poll threw up – do you think that there is a cut in the offing? Is that how you would trade the 10-year?
Prasanna: At this point of time, I would think about this as an opportunity. RBI has probably borrowed time for doing further rate cuts. So, I would actually look at 4.5 as the inflation number by the last quarter of this financial year. And if you have to look at the earlier real rate arguments and all that, even if you have to give a question, there is sufficient space for the RBI to cut rates.
Having said that, we should also understand that the market and almost the entire market unilaterally expected a rate cut, coming back from that scenario. So, it is not that the bond markets are going to rally immediately. It will take some time, markets will have to readjust, probably bonds will shift from the weaker hands to stronger hands and after that, you can see a fresh impetus. So, in terms of a range on the 10-year, I would probably expect 6.25-6.45 to hold for the time being till we get further data as we go along.