RBI may not hurry rate cuts as strong growth provides room to focus on inflation: IDFC First Bank’s Gaura Sengupta

Gaura Sengupta - IDFC first bank

The Reserve Bank of India (RBI) will not be in a hurry to cut interest rates because the strong growth has provided the room to focus on inflation, said Gaura Sengupta, Economist at IDFC First Bank, in an exclusive interview with Moneycontrol on March 21.

She said that the central bank may start the rate cutting cycle from August onwards because till then there will be more clarity on food inflation risk and the US Federal Reserve’s policy outlook.

Globally, there could be a delay in the Fed rate cut cycle, after the last two US CPI inflation prints surprised on the upside, Sengupta added.

In February, India's headline retail inflation rate was largely unchanged at 5.09 percent, from 5.10 percent in January.

Sengupta also said that headline inflation in March 2024 could be marginally lower than 5 percent. Edited excerpts:

The RBI’s March Bulletin said monetary policy must remain in "risk-minimisation" mode to firmly bring consumer prices down, what is your take on this?
RBI is likely to take a cautious tone on the food inflation outlook, given the successive supply-side shocks seen in FY24. Even as of February 2024, food and beverages inflation remains elevated at 7.8 percent on-year, led by price pressures in cereals, vegetables, pulses and spices. Out of these, inflation pressure has been transient in vegetables and persistent in the rest.

RBI’s cautiousness is warranted, as this time we didn’t get as much support from the usual winter season decline in vegetable prices. As a result, even in February vegetable prices were higher by 30.2 percent on-year. As we exit the winter months, there is a risk that food inflation could firm up if weather conditions are not supportive.

That said, RBI members will draw comfort from the broad-based moderation in core CPI inflation, spread over goods and services. The sustained moderation in core inflation indicates that the risk of overheating of the economy remains low, despite strong growth conditions. This reflects the fact that GDP growth has been driven by investment, which is associated with capacity creation. Meanwhile, consumption has remained subdued.

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Will reduction in fuel and cooking gas prices help inflation to go closer to the medium-term target and will the RBI revise its CPI inflation projections?

Both these factors will aid moderation in headline inflation in the near term. The Rs 100 per cylinder cut in LPG prices is expected to reduce headline inflation by 10 basis points (bps) in March 2024. Meanwhile, the impact of Rs 2 per litre cut in petrol and diesel is expected to reduce headline inflation by 6 bps spread over March and April. Headline inflation in March 2024 could be marginally lower than 5 percent.

What action do you expect the RBI will take in April monetary policy?

We expect the RBI to maintain the status quo on rates and stance, as headline inflation remains above target levels. The RBI is likely to revise up its FY24 and FY25 GDP forecast, with the latest RBI monthly bulletin indicating upside risk. On the inflation front, no major changes are expected in the forecast with FY25 likely maintained at 4.5 percent. However, we could see some minor changes in the quarterly trajectory.

Policy focus will remain on ensuring headline inflation aligns with the 4 percent target. The RBI will not be in a hurry to cut interest rates, as strong growth conditions provide policy space to focus on inflation. Moreover, globally there could be a delay in the Fed rate cut cycle after the last two US CPI inflation prints surprised on the upside. Under the current conditions, it looks increasingly likely that the RBI rate cut cycle could start from August onwards, as there will be more clarity on food inflation risks and the Fed policy outlook. The monsoon season is important for crop output with 57 percent of the food grain area under cultivation irrigated and the rest dependent on rainfall.

India’s economy grew by a better-than-expected 8.4 percent in the final three months of 2023, what are your projections going ahead?

The GDP metric tends to be more volatile as it is impacted by changes in net tax collections and subsidy payments. The large gap between GDP and GVA in Q3 was due to a sharp decline in subsidy expenditure. In contrast, the GVA metric has been far more stable. On this metric, we expect some moderation in growth in Q4FY24, led by softer growth in company profits as support from input cost reduction wanes.

Moreover, the government expenditure growth could also slow as the financial year draws to a close. Urban consumption, which has been the key support to overall consumption growth, could moderate as urban wage growth slows. We expect a mild moderation in GVA growth to 6 percent in Q4FY24 as against 6.5 percent in Q3.

Also read: US Fed leaves key lending rate unchanged, officials still see three rate cuts this year

Do you expect any liquidity measures announcement by the RBI considering that liquidity will improve in the next fiscal year?

We do see liquidity conditions being less tight in FY25 with the Balance of Payments surplus expected to be substantial, supported by a moderate current account deficit and a strong pick-up in capital inflows. India’s inclusion in the JPMorgan EM bond index is expected to get FPI inflows of $30 billion. Pick-up in FDI and ECB inflows is expected once the Fed rate cut cycle starts. However, these capital inflows will be more in H2FY25. Hence, for now, we don’t expect any measures in the April policy. The focus of liquidity management will be on keeping the weighted average call rate close to the repo rate.

Can we expect any change in stance in the April monetary policy?
The stance is expected to be retained as ‘withdrawal of accommodation’, as inflation remains higher than target levels. In the February policy, the stance was linked with the policy rate outlook and aligning inflation with the 4 percent target. Hence, the stance will change only if the RBI wants to signal a rate cut for the next policy. Given our expectation of a rate cut cycle starting from August, the earliest the stance could change would be in the June policy.

Also, in the February policy, the stance was de-linked from liquidity conditions as the latter is influenced by exogenous factors.