RBI should stick to wait and see approach

# Domestic growth-inflation dynamics, and

# External balance, mostly centred on geopolitical risks and asynchronous monetary policies.

In such a scenario, a wait-and-watch approach in the October policy should be preferable. Both the stance change, and the policy rate change should be a discussion for the December policy with further clarity on food inflation and growth impulses.

Spectre of food inflation continues to lurk

The RBI has underscored its commitment to the 4 percent inflation target. However, food inflation continues to offset most of the gains from low core inflation. Core inflation has been around 3 percent, though it has started to inch up gradually. Food inflation remains volatile. In fact, onion and tomato prices have spiked up in the second half of September. Consequently, vegetable prices can push September headline inflation towards the 5 percent mark again, in line with June print and up from the favourable base effects-led sub-4 percent prints of July-August.

We expect second quarter of FY25 CPI inflation at around 4.2 percent after the spike in vegetable prices in September. This spike will most probably be transient. However, the RBI will be mindful of the risks to households’ inflation expectations since these shocks have been recurring. The RBI’s estimate for Q2 FY25 inflation was 4.4 percent. The RBI will most likely keep the inflation estimate unchanged at 4.5 percent, with inflation evolving broadly in line with expectations.

Signs of growth fatigue

At the surface, growth continues at a steady clip, and, indeed, most indicators continue to grow steadily. But some of the activity indicators are showing incipient signs of some slowdown, especially in August and September.

While one can chalk it up to weather patterns and religious calendars, it is worth noting some of the visible shifts. These are nascent trends and, hence, difficult to ascertain how sustainable they will be. Festive season trends as well as post-festive demand need to be watched for a clearer picture. Nevertheless, few metrics could be worth highlighting.

# PMI manufacturing, while remaining in the expansionary zone (56.5 in September), has been declining gradually.

# Passenger vehicle sales contracted in July ((-)2.5 percent) and August ((-)1.8 percent), the first contractions since April 2022.

# Growth in GST collections for August sales dipped down to 6.5 percent, the lowest since May 2021. Governments’ capital expenditures growth has also been weak, barring a few of the key sectors, mostly due to the election impact. The overall real estate sales (for the top key cities) have seen some slowdown, albeit concentrated in one or two cities.

The RBI is unlikely to change its FY2025 GDP growth estimate of 7.5 percent in the October policy. The MPC will likely wait for more durable shifts in the growth metrics along with a visible impact of global growth outcomes.

Uncertainty from geopolitics and monetary policies

The recent conflict in West Asia will be closely watched by the RBI. The impact on trade and crude oil prices through disruption of supply chains and production can have meaningful implications for domestic growth-inflation dynamics. An increase in risk-off sentiments will induce volatility in financial markets. From a more fundamental perspective, volatility due to the Fed’s and the Bank of Japan’s policy cycle, along with other major central banks’ moves, will require an even-handed approach.

The large and adequate foreign exchange reserves serve as an excellent first line of defense against these headwinds. This reduces any immediate need for synchronising policy actions to external impulses. Liquidity conditions can be eased on a more durable basis if global shocks were to percolate into domestic growth and credit dynamics in the near term. The RBI will continue to focus on the domestic dynamics while watching closely for global shocks.

A wait-and-watch approach for October remains our base case, with no change in stance or repo rate. We continue with our long-held view that the December policy should provide the first instance of opening up the rate cut cycle window, along with the stance change to neutral.

(Suvodeep Rakshit is Chief Economist at Kotak Institutional Equities.)

Views are personal and do not represent the stand of this organisation.