Madhuchanda Dey Moneycontrol Research
The official stance of RBI's Policy remains ‘neutral’ with no official change in the policy rate. But the undertone is cautiously dovish. Celebration time? Not yet, as the Central bank feels that without repairing the health of the banking sector, any policy rate cut would not have any meaningful transmission effect. But to soothe nerves frayed by the soft GDP print, an attempt has been made to ease flow of credit to housing – the sector with the highest linkage. Markets may now have to wait longer for the official ‘rate cut’ as falling inflation alone wouldn’t satisfy the central bankers; resolution of stressed assets also has to gather steam.
The bank underscored the importance of reviving private investment, restoring banking sector health and removing infrastructural bottlenecks before decisively loosening its purse strings.
RBI has nevertheless taken decisive note of falling prices in its policy
While resolving to keep headline inflation close to 4 percent on a durable basis within a band of +/- 2 percent, the near-term forecast projects softer prices – pretty much along the lines of the last reported CPI (Consumer Price Inflation) print.
The Central Bank projected headline inflation in the range of 2.0-3.5 percent in the first half of the year and 3.5-4.5 percent in the second half. This is in sharp contrast to what it expected couple of months back - CPI inflation to average 4.5 percent in H1 FY2018, before rising to 5.0 percent in H2 FY2018.
So, what’s changed according to the RBI?
• The fall in crude prices and OPEC’s failure to tighten the market.
• Weak demand from China impacting non-fuel commodity prices and benign inflation outlook globally.
• Leading engines of growth in India subdued. This includes industry as well as services and marked contraction in gross fixed investment that is reflecting in production of capital goods. Pricing power of industry and services remain weak.
• Private consumption expenditure remains the sole silver lining and that probably warrants some caution on inflation.
• Record output of foodgrains, fruits and vegetables. This, coupled with India Meteorological Department (IMD)’s re-affirmed forecast of a normal and well-distributed south-west (June-September) monsoon, augurs well for softer prices.
While the aforesaid factors might have prompted RBI to reverse its expected inflation trajectory, it was not enough for it to budge. The RBI would still like to wait and watch if the drop in prices in April sustains. The Central Bank remains vigilant about imported inflation owing to any global factors and the impact of the disbursement of allowances under the 7th Central Pay Commission’s award.
It is not only inflation about which there is a reversal of stance from the previous policy. The bullishness of last policy on growth has been replaced by a downward revision. The RBI has revised down the real GVA (gross value added) growth for 2017-18 by 10 basis points to 7.3 percent.
There was the potent combination of low prices and low growth. Why did it not cut rates?
The Central Bank feels that transmission of lower policy rates wouldn’t happen as long as banks reel under asset quality woes and majority of them are under-capitalised to start contributing to growth.
However, to facilitate the flow of credit (RBI’s bit to aid the growth revival without tinkering with rates), measures have been announced in a sector with maximum linkage and minimum stress – housing. The standard asset provisioning requirement for housing loans have been reduced by 15 basis points to 25 basis points.
For loans between Rs 35 lakh and Rs 75 lakh the loan to value ratio has been increased from 75 percent to 80 percent.
For loans above Rs 75 lakh, the risk weightage has been reduced from 75 basis points to 50 basis points. Since most loans in urban centre, falls in this category, the move stands to inject life into the moribund real estate sector.
To help migrate banks to 100 percent Liquidity Coverage Ratio (LCR) from January 1, 2019, the SLR (Statutory Liquidity Ratio) has been reduced from 20.5 percent of NDTL (net demand and time liability) to 20.0 percent of NDTL.
The decisive change in policy stance, coming just before the July 1 GST roll-out should fuel expectations of a rate cut especially if the growth outlook turns out to be softer than RBI’s current estimates (on account of GST-related adjustments). Till such time, as RBI wants, the focus should veer from inflation to stressed asset resolution.
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