Policy review: RBI obliges but changes stance from June : Business Standard 3rd August 2017

The credit policy is no longer a policy or view of the RBI but that of the Monetary Policy Committee. Being based on a consensus from a combination of internal and independent external experts, the flavour changes and dispels the common loosely held view that it can be influenced by external factors. The decision to lower rates was expected even as the market has made it a habit to always buffer a rate cut every time a policy is announced. Prima facie, it appeared that with CPI inflation going below 2% there was strong reason to lower rates as the target which has been set is 4% with a band of 2% on either side. With the number crashing through the lower limit, a clamour for rate cuts naturally built up. But if one goes back to the earlier policy statement from the RBI, there were some issues highlighted which are still not addressed today. There were three concerns that were flagged in June which surprisingly still find mention in the policy statement though the RBI appears to be more positive this time. First, the GST which was to be brought in from July has an unknown impact on inflation even though the government has assured that at the aggregate level it would be neutral. Second, the Pay Commission revisions were to kick in from July on the house rent allowance which would statistically push up the rent component of the CPI. This is critical because the non-food components have witnessed increases in the range of 4.5-5.5% in the past few months and are likely to increase on both these scores. Third, the states’ fiscal position was under pressure due to loan waivers which came in the way of RBI action as demand pull inflationary forces could build up with a lag. It should be kept in mind that the less than 2% inflation rate was partly due to a high base effect which would get diluted along the way. Add to this the recent sharp increase in prices of vegetables; there would be upward triggers though the number of 4% is unlikely to be breached in the next couple of months. While analyzing rationally one could have argued for status quo, the growth pressures have been compelling with strong support from low headline CPI number. The Fed has maintained an unchanged stance this time which combined with lower domestic rates can impede the flow of FPI and hence weaken the rupee, which may in turn not be bad for exports. Will there then be further rate cuts during the rest of the year? Probably yes, once the picture on all these concerns are known, which could be by October. A good harvest is expected though any specific crop price hikes cannot be ruled out if there are shortfalls in some pockets. Therefore, another call on rate cuts can be taken at this point of time. Further, as this will also coincide with the busy season when demand for credit picks up, it seems to be fairly reasonable to have the RBI lower rates at this point of time. The next policy will hence be quite crucial as a clearer picture emerges on inflation. While growth is low, it has been so for the last few months and hence would not be the major driving factor. Another 25 bps cut looks likely on the cards in the second half of the year.