Room for rate cut in 2HFY16: India Ratings

    Monetary Policy Review by India Ratings
RBI Takes a Pause: After front-loading the rate cut, the Reserve Bank of India (RBI) took a pause in its third bi-monthly review. As a result, repo rate, reverse repo rate and marginal standing facility rate continue to stand at 7.25%, 6.25% and 8.25%, respectively. This is in line with India Ratings and Research’s (Ind-Ra) expectations. Amid evolving growth-inflation dynamics, Ind-Ra believes the policy stance reflects RBI’s continued intention to anchor both inflation and inflationary expectations. Also, RBI may want to wait for cues from the US Federal Reserve on the timing of their interest rate hike. US Fed is likely to tighten policy for the first time in a decade this year, probably in September.

Monsoon Still Holds the Key: Cumulative rainfall till 29 July 2015 has been 3.0% below the long period average. However, kharif sowing has expanded significantly relative to a year ago due to the strong rainfall in June, especially in respect of oilseeds, pulses, rice and coarse cereals. However, the rainfall over the country as a whole during the second half of the season (August to September) is likely to be 84% of the long period average, according to Indian Meteorological Department. This means the risk to kharif crops and consequently of higher food inflation remains. Also, the impact of unseasonal rains has become visible, with a lagged impact on the prices of vegetables and is most pronounced in case of onion.

In case of deficient rains during the remaining months of monsoon, some cushion to kharif crops will be available on account of (i) higher reservoir levels particularly for areas that depend on irrigation and (ii) contingency plans by the government for vulnerable districts.

Room for Rate Cut in 2HFY16: Wholesale Price Index (WPI) inflation has remained negative for the last eight consecutive months and stood firm at negative 2.4% in June. Although Consumer Price Index (CPI) inflation is lower than RBI’s guided path target of 6% by January 2016, it accelerated to an eight-month high of 5.40% yoy in June 2015 compared with 5.01% yoy in May 2015, predominantly due to higher food inflation and diminishing base effect. The base effect on inflation will wane further in the coming months. For WPI, it will kick in from August 2015 and for CPI it will be more pronounced from September 2015. Price increases in some protein-rich items such as pulses, milk and meat caused food inflation to rise to 5.5% in June from 4.8% in May.

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