RBI expected to hold rates; may cut growth projection

The six-member monetary policy committee of the Reserve Bank of India (RBI) will not have scope to cut interest rates as it is expected to maintain the status quo in the monetary policy review meeting scheduled from June 2-4.

It is likely to maintain the accommodative stance even as local lockdowns due to the second wave of the Covid-19 pandemic have adversely impacted economic activities.

The outcome of the review will be announced on Friday. If the central bank decides to maintain a status-quo then it will be the sixth consecutive policy when the repo rate is left unchanged at 4%.

“With the economic impact of the second wave yet to unfold completely, there’s a narrow zone for MPC to act on at this point of time. The rate action will almost certainly stay on pause continuing with an accommodative stance,” Rajni Thakur, Economist, RBL Bank said.

At the start of the first wave in 2020, the central bank immediately started lowering interest rates with the repo rate being reduced by 75 basis points (bps) in March 2020 and then again by 40 bps in May 2020. Since then, the repo rate has not been reduced.

Read | Bank credit growth decelerates to 5.6% in March: RBI

“We believe that the Monetary Policy Committee has no option but to stay accommodative, even as it monitors incipient price pressures, and keep all rates on hold, while likely extending its Government Securities Acquisition Program (GSAP),” economists at Barclays said in a note.

“Since May’s policy announcements, the growth outlook has degraded further, with greater evidence that inflation headwinds may remain persistent going into H2 2021. However, with some relief on the virus caseloads, the RBI can balance its message around prospects for a return to economic normality,” the report said.

In early May, when the second wave was at its peak with several states imposing lockdowns, the RBI announced a series of measures to increase the flow of credit to the productive sectors of the economy as well as to the healthcare sector. The decisions were, however, not a part of the monetary policy review meetings.

Growth

One of the key numbers to watch from the June policy review will be the central bank’s projection on economic growth. In the last policy review meeting of April, GDP growth for the current financial year was projected at 10.5% while for the first quarter, it was 26.2%. Economists said these projections are likely to be revised downwards due to the impact of the second wave.

“The second wave of the pandemic which has been more intense and widespread than the first has been a setback for India’s fledgling economic recovery. Economic growth in FY22 is expected to be lower than earlier anticipated and this would have implications on the fiscal math of the government,” CARE Ratings said.

Economists and rating agencies which were projecting a double-digit growth – on the back of expected growth contraction - for the current financial year now see growth to be in high single digits. The National Statistical Office (NSO) had projected GDP growth for the previous financial year at -8%. The government will announce the growth numbers of FY21 and the fourth quarter of the last financial year on Monday.

“The nominal GDP for FY22 was estimated to be Rs 222.9 lakh crore which tantamount to a 14.4% growth over FY21. There is a downside risk to this growth estimate given that this projection was made before the onset of the second wave of the pandemic. We estimate nominal GDP growth of 12.2% for FY22 (9.2% growth in real GDP),” CARE Ratings said.

Inflation

Consumer price-index-based inflation remained elevated in the previous financial year due to supply disruption. For the year 2020-21, inflation picked up to average 6.2%, 140 bps higher than the previous year.

In April, retail inflation was at 4.3%, as compared to 5.5% in March. In the annual report released last week, the central bank pointed out that inflation remained a key concern that constrains the monetary policy to support growth.

Economists said the central bank may look through the uptick in inflation in order to support economic growth.

“Rising inflationary pressures will likely come up as a key risk which RBI will choose to overlook for now in order to support growth. There might be some monetary measures to support the worst-hit sectors including the key services sector. We are watching for RBI’s assessment of economic dent in the second wave and any concomitant change in the growth and inflation outlook for the year,” Thakur of RBL Bank said.

Supply-side disruptions due to lockdowns, rise in global commodity prices like crude oil are cited as risks to inflation by economists.

“Crude oil prices have picked up on optimism of demand recovery and continuation of OPEC plus production cuts, and are expected to remain volatile in the near term. Cost-push pressures have also emanated from non-energy commodity prices and could firm up further as economic activity normalises and demand picks up,” the central bank said in its annual report. A normal monsoon which is projected by the Indian Meteorological Department will help to contain food inflation.

In the last review of monetary policy, RBI projected CPI inflation at 5.2% for the first and second quarters of the current financial year, 4.4% in the third quarter, and 5.1% in the last quarter.

“An emerging question for the RBI will likely be the sequential momentum of inflation. Given high base effects, we believe it is unlikely that the RBI will be much worried over the trajectory of headline inflation,” the Barclays report said while adding the central bank will be watchful of upside risks to the medium-term inflation outlook from supply-side disruptions and new lockdowns, global commodity prices and eventual revival of demand.

(The writer is a Mumbai-based senior journalist)