At its first bi-monthly monetary policy meeting of 2016, the Reserve Bank of India (RBI) today left its key repo rate, along with cash reserve ratio and statutory liquidity ratio, unchanged.
As expected by economists, the Reserve Bank of India (RBI) today left the key repo rate unchanged at 6.75 percent, saying it would want to wait for more inflation data and the Union Budget before taking action, even as it said it would continue to remain "accommodative".
It also left the cash reserve ratio and statutory liquidity ratio unchanged, despite concerns that liquidity is tight in the system.
In its monetary policy statement, the Reserve Bank said the Indian economy was prodding along well, but said it would take into consideration steps taken in the Budget that would boost growth while keeping inflation in check.
"The Indian economy is currently being viewed as a beacon of stability because of the steady disinflation, a modest current account deficit and commitment to fiscal rectitude," the central bank said. "This needs to be maintained so that the foundations of stable and sustainable growth are strengthened."
In reaction to the meet, equity shares and the rupee fell a bit while bond yields rose. The stock market turned direction soon after.
Since assuming office as Governor of the Reserve Bank in September 2013, Dr Raghuram Rajan spent the first half of his three-year tenure trying to battle inflation by keeping interest rates high. Starting last year, the central bank cut rates by a total of 125 basis points.
The RBI added that it was on course to meet its January 2016 target of keeping consumer inflation below 6 percent though it upped its January 2017 target from 4.8 percent earlier to 5 percent (subject to upward risks arising out of Pay Commission rollout).
For fiscal year 2016, the RBI said it expects growth to come in at 7.4 percent with downside risks. For the next fiscal, it said growth is expected to increase to 7.6 percent.
At the press conference following the meet, Dr Rajan also argued that liquidity was not as tight as believed by some, and said the Reserve Bank had injected ample liquidity through repos and open market operations and would continue to monitor the situation.
Inflation risk continues
While the RBI has won the inflation battle with some help from benign commodity prices, which will likely continue to put downward pressure on prices, the Indian economy faces risks from an upcoming spending spree.
An expected package for the struggling rural sector in the Budget, coupled with rollout of measures such as Pay Commission and One-Rank-One-Pension could pull up demand side pressures.
Further, the Reserve Bank today said it was keeping track of the rabi harvest and seasonal effects that could impact food prices going forward.
Fiscal deficit the key
"The RBI has put the responsibility [for more rate cuts] in the hands of the government," HSBC Chief India Economist Pranjul Bhandari told CNBC-TV18, underlining Rajan's frequent calls recently, including today, that the government should not breach its fiscal deficit threshold of 3.9 percent of GDP in FY16.
While Finance Minister Arun Jaitley has also firmly said he is clear about meeting the fiscal deficit target, others have called upon the government to consider widening its deficit (difference between government expenditure and revenue) and using more borrowing to boost growth.
While advocates of accommodative fiscal policy argue that the government can afford to have a higher deficit, given the benign global commodity situation (which would ease pressure on the import bill and trade deficit), critics such as Dr Rajan have said pursuing such a policy is not worth the risk.