It must have been another tough call for RBI, but it is heartening to note the tilt now is more towards growth than inflation. In terms of RBI’s own mindset, the risks to inflation ballooning once more are limited. No wonder, RBI brought down its own inflation projection to 6.8% for March end compared with the previous projections of 7.5%. Interestingly, this denotes a U-turn in RBI’s inflation expectations since the previous credit policy review in December, when inflation was projected to have risen to 7.5% from 7% at end-March 2013.
Further, RBI seems a bit concerned that the growth is significantly below trend. While it has brought down its FY2013 growth estimates to 5.5% from 5.8% earlier, RBI admits the growth compression is a result of contraction from the demand side with domestic investment activity as also consumption demand having slowed. Overall, the softening status on growth and also with inflation under control, the RBI could afford to bring down the Repo rate by 25 bps.
Along with this, RBI has also brought down CRR by 25 bps, likely to release around R18,000 crore of liquidity into the system. This, we think is a smart move to ensure the repo cut of 25 bps percolates down to the real sector of the economy. To put this in perspective, a mere 25 bps cut in Repo rate might not have been effective in bringing down the commercial lending rates as deposit growth of the banking sector had been relatively muted. This had led to an increase in the rates offered for deposit mobilisation by some banks, thereby, pushing up their cost structure.
Even as RBI obliged with a repo rate cut, the way forward remains extremely uncertain. RBI’s policy statement indicated that growth-inflation dynamics need to be balanced through “calibrated easing”, and “it is critical now to arrest the loss of growth momentum without endangering external stability”. Important in this statement are the words external stability. RBI remains worried over the current account gap, which even with some measures to cap gold imports via increase in import duty, is unlikely to cool off significantly. My own estimate for CAD/GDP for FY13 is at 4.4%, correcting to around 3.4% in FY2014 in the event that oil prices come off to average at $105 a barrel in next financial year. Thus, CAD continues to stay as one of the biggest structural risks to the Indian