Rate cut seen in next policy, if diesel price hiked: Nomura

Sonal Varma, India Economist, Nomura Financial Advisory & Securities (India) Private is expecting for a rate cut in the July policy if diesel prices are hiked.

In an interview to CNBC-TV18, she said, "If there is a diesel price hike in India it’s likely to happen after the presidential elections gets over. The trajectory that the RBI has given on the rate cycle in the last policy which is that the direction of rate is still down but the room is limited. This pause does not mean that it’s a pause even in the next policy, I think there could be a rate cut next time provided the government does a diesel price hike before the next policy."

However, being very disappointed at the RBI’s stance today, Varma blamed the central bank ready to take in more growth sacrifice. "If it comes to that getting government to really now respond and not expecting much from the central bank means more growth slowdown this year. This will also have a negative impact on NPAs. It will lead to higher fiscal deficit," she warns.

Here is an edited transcript of her comments. Also watch the accompanying video.

Q: First your comment on the actions and then the impact more importantly on growth?

A: This time around the RBI could have justified anything. Even if they had done a 25 bps cut that could have been justified but with the government again hiking minimum support pressures by 20%. Their study shows that in the short-term it can lead to a 100 bps increase in headline inflation, a 10% hike in MSP (minimum support price) and in the long term can have a 200 bps impact on headline inflation.

I think this is really a disappointment because the entire structural rigidity in Indian inflation started with MSP hikes in 2008 which led to high food inflation and therefore to high inflation expectations and the government continuing to go down that path apart from everything else on diesel price hike not coming in and regulatory issues, decision making etc.

According to me, RBI announcing another 20% increase in MSPs during this time is really a big disappointment and to that extent RBI is clearly justified in its actions. What it means,of course, is that RBI is ready to tolerate even slower growth.

We have been arguing since growth had been slowing from 9 % to 8% to 7% to 6% and now to 5%, at what growth point RBI will standup and say okay now I want to support growth. It appears that there is no level. RBI is ready to take in more growth sacrifice. If it comes to that getting government to really now respond and not expecting much from the central bank means more growth slowdown this year. This will also have a negative impact on NPAs. It will lead to higher fiscal deficit.

Q: How are you looking at inflationary trends from hereon? The numbers coming in itself, more importantly are you now beginning to work something at all towards July 31?

A: I think this time along the focus of RBI is more on the structural drivers of both inflation and growth. The structural drivers of the sticky inflation in India are whether government fiscal deficit remaining high, consumption demand too high, rupee depreciation, increase in minimum support price for food which is keeping food inflation sticky.

I think going forward inflation, even if commodity prices rise, we may see rupee appreciation. So the net effect in INR terms of commodity prices may not be much but the issue here is that the structural drivers of inflation are keeping Indian inflation sticky and the risk really is on the upside.

I am particularly worried about inflation after the MSP increases that were announced last week. So it’s looking like with a diesel price hike sometime after the presidential elections headline inflation will remain above 7.5%. This is with moderation possible only in the second half of the year if at all. In terms of the RBI policy action I think this 31 July timing gels well with the post presidential election.

If there is a diesel price hike in India it’s likely to happen after the presidential elections gets over. So, we may see a diesel price hike. The trajectory that the RBI has given on the rate cycle in the last policy which is that the direction of rate is still down but the room is limited. I think that guidance still holds. This pause does not mean that it’s a pause even in the next policy, I think there could be a rate cut next time provided the government does a diesel price hike before the next policy.

Q: Do you now start seeing people bringing down their growth forecast even more, will you be trimming something for Q1 itself and maybe even Q2?

A: Q1 has actually already started on a very weak note. The IIP numbers were basically flat in April. So even Q1 GDP is tracking around 5.5% and at least our expectation was for a rate cut of 50 basis point this calendar year. The poor GDP readings in fourth quarter had only caused us to advance the rate cut.

So, at the margin there are downsides to growth but I think they come also from the global side of the world. But I think in general it is a sort of stagflationary situation for India. The RBI’s statuesque will basically ensure that inflation risk do not shoot further from here. But because of various government actions inflation is already very high, I do not see how inflation is going to come down very sharply even with the RBI not cutting rates because of the pressure we are seeing on the food side. The economic outlook remains lackluster growth and sticky inflation in the near future.

Q: Where does your number stand now for Q1?

A: Right now we are expecting 5.7% but the April reading suggests it is also going be closer to 5.5% or so.