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RBI Monetary Policy | Accommodative stance indicates room for 25-50bps repo rate cut, inflation set to fall in H2FY21: Experts

The RBI projected CPI inflation at 6.8 percent for Q2FY21, at 5.4-4.5 percent for second half of FY21 and 4.3 percent for Q1FY22, with risks broadly balanced.

October 09, 2020 / 07:21 PM IST

The Monetary Policy Committee has unanimously decided to leave repo rate unchanged at 4 percent given the retail inflation at 6.69 percent in August and continue with accommodative stance of monetary policy as long as necessary – at least for two years – to revive growth on a durable basis and mitigate the impact of COVID-19.

The MPC also ensured that inflation remains within the target going forward, saying projections indicate that inflation would ease closer to the target by Q4 of fiscal 2020-21 and GDP growth may break out of contraction and turn positive by Q4FY21. The RBI's inflation target is 4 percent (+/- 2 percent).

"Historically the interest rates in India have not remained low for long. However, with limited visibility of economic recovery and lot of sectors continue remaining fragile, RBI continues to support growth and kept key rates unchanged. RBI continues to tolerate low interest rates despite of high inflation, indicating that increase in interest rate will be slow and gradual pace until the pace of recovery improves," Harshad Chetanwala, told Moneycontrol.

The RBI stated that some of this optimism is being reflected in people's expectations. "In September 2020 round of the RBI's survey, households expect inflation to decline modestly over the next three months, indicative of hope that supply chains are mending. Other surveys, also conducted in September, indicate that consumer confidence is turning upbeat on the general economic situation, employment and income over a one year ahead horizon."

Given the expectations of falling inflation in coming months with strong Kharif season this year (than last year), brightened outlook for rabi season, supply chains are restored (as the economy unlocks) and resilient rural economy, and the RBI maintaining its support in terms of liquidity and using several non-interest tools to revive economy, experts feel there is a room for another 25-50 bps rate cut in second half of FY21.

"The decision to remain accommodative for an extended period and to look through 'transient humps' in inflation reveals an appreciation for the basic principles of economics –that a GDP contraction of 9.5 percent is simply not compatible with demand side inflation pressures," Abheek Barua, Chief Economist at HDFC Bank told Moneycontrol.

"Given the stance, there is a significant probability of a rate cut in February, if not in December itself as inflation, as we expect, moderates," he said.

The RBI projected CPI inflation at 6.8 percent for Q2FY21, at 5.4-4.5 percent for second half of FY21 and 4.3 percent for Q1FY22, with risks broadly balanced.

"Once inflation, which remains a supply-side disruption currently, softens, RBI should be willing to cut rates and we expect atleast a 35 basis cut this financial year. The decision to hold rates steady would also help to protect NIMs of banks as a majority of the loan book is linked to the repo or other floating benchmarks," R K Gurumurthy, Head of Treasury at Lakshmi Vilas Bank said.

Amar Ambani, Senior President and Head of Research – Institutional Equities at YES Securities sees possibility of further scope of 25-50 basis points cut in Repo policy rates.

RBI finally gave GDP forecast for current financial year, which was avoided due to COVID-led uncertainty in the economy.

The central bank expects real GDP growth in FY21 to be negative at -9.5 percent, with risks tilted to the downside, with -9.8 percent in Q2FY21, -5.6 percent in Q3FY21; and 0.5 percent growth in Q4FY21.

While maintaining accommodative stance with no rate cut, the RBI announced several additional liquidity and regulatory measures including on tap TLTRO, open market operations (OMO) in state development loans (which is the first time in history), rationalisation of risk weights on housing loans and extension of held to maturity limits till March 2022.

"These are very important measures and are likely to ease financial conditions further and provide support to key sectors of the economy," Anagha Deodhar – Economist at ICICI Securities said.

Dhiraj Relli, MD & CEO, HDFC Securities feels announcement to allow banks to increase exposure to retail and small borrowers up to Rs 7.5 crore (from Rs 5 crore earlier) and rationalising risk weights for all new housing loans are welcome from the borrower's perspective but Banks need to beef up their credit appraisal processes.

"As the economy continues to be in a fragile state, recovery in growth assumes primacy. The RBI's intent to support the economy even in the wake of rising inflation is comforting," he said.

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Sunil Shankar Matkar
first published: Oct 9, 2020 02:04 pm