Finger on pause button, eye on inflation

Apr 02 2014, 05:43 IST
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SummaryRajan keeps rates unchanged, RBI to keep hikes on hold if inflation continues to trend lower.

The Reserve Bank of India (RBI) left the key policy rate unchanged at 8% on Tuesday, not convinced inflation had been tamed and preferring to giving the disinflationary process a little more time even though it conceded industrial growth was slowing with downside risks to the estimate of 5.5% for FY15.

With the central bank signalling it wants interest rates in the system to remain elevated, there appears little scope for banks to immediately cut their base rates, more so since their borrowing costs could rise slightly. The RBI will now provide more liquidity — 0.75% of net demand and time liabilities — through the 7- and 14-day term repo windows while reducing the amount available at the overnight window to 0.25% of NDTL.

However, in the absence of lending opportunities and sluggish loan growth, banks are unlikely to raise rates. “The cost of funds could go up slightly but there may be no change in lending rates,” Arundhati Bhattacharya, chairman, State Bank of India (SBI), said at a press conference.

“It’s business as usual for some time,” Punjab National Bank CMD KR Kamath said.

Economists believe it could be a while before policy rates ease. “If growth is no more than 5% for a couple of more quarters, which, by the central bank’s latest estimates, would constitute about 100 bps below the potential rate of growth, and CPI inflation heads below 7%, there will be room for the central bank to cut rates in the fourth quarter,” Taimur Baig and Kaushik Das at Deutsche Bank wrote in a note.

They added, however, that given the signals being sent out by the RBI lately, inflation and growth would have to decline substantially and persistently for any easing to be entertained.

Explaining the rationale for a status quo, widely anticipated by the markets, governor Raghuram Rajan pointed out that although headline CPI may have come off, risks to the central forecast of 8% CPI by January 2015 persisted, primarily arising from a sub-normal monsoon following an adverse impact of El Nino. “We believe rates are at an appropriate level,’ Rajan asserted at a media conference. The RBI projects inflation at 8% by January 2015 and at 6% by January 2016.

While headline CPI has fallen by 1.4% between November and February, the result of lower vegetable prices, the central bank believes these are unlikely to soften further. Moreover, it feels core CPI

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