Reserve Bank of India hikes policy repo rate to 6.5 pct, maintains neutral stance

The Reserve Bank of India, today, hiked its policy repo rate to 6.50 percent, as expected, and maintained a neutral stance. According to an ANZ research report, this neutral stance suggests that future policy actions would be data dependent.

The Indian central bank made just minor adjustments to its inflation forecasts. Given the realized inflation and its second quarter FY2019 estimate of 4.6 percent, headline inflation is forecast to come in at 4.7 percent year-on-year compared to its earlier forecast range of 4.8 percent to 4.9 percent. For the second half of FY2019, it is forecast to be 4.8 percent year-on-year compared with its previous one of 4.7 percent. The central bank also projects Q1 FY2020 headline CPI inflation at 5%.

The risks to inflation have become balanced as opposed to being skewed to the upside, as in its earlier assessment. Current monsoon trends seem favorable whereas the effect of rises in the minimum support prices would be contingent upon the nature and scale of the government’s procurement operations. However, the Reserve Bank of India underlined that MSPs would have a direct effect on food inflation along with associated second round effects on CPI inflation. Oil price though volatile, have eased whereas the reduction in GST would help to ameliorate inflation if passed on to retail consumers.

Meanwhile, increasing input costs amidst strengthening domestic demand conditions as rising expectations of household inflation present upside risks. These opposing forces presumably explain the RBI’s decision to keep a neutral stance.

The outlook for economic growth continues to be favorable based on the performance of several high frequency indicators such as consumer good sales, corporate earnings, and capacity utilization. Accordingly, the GDP growth forecast of 7.4 percent for FY2019 continues to be the same. The growth trajectory that assumes a modest deceleration in the second half was also retained. The RBI is also of the view that the output gap has virtually closed.

“In our view, ensuring a neutral level of liquidity will be a key challenge for the RBI in H2 FY2019”, added ANZ.