There were no surprises in the Reserve Bank of India’s (RBI) mid-quarter review of monetary policy on Thursday. That is seen from the behaviour of the rate-sensitive sector indices in the stock market. The index that fell the most on Thursday was the Bombay Stock Exchange’s (BSE) FMCG index, followed by the IT index. The rate-sensitives didn’t do too badly. True, BSE’s auto index also fared badly, but that was mainly on account of Maruti Suzuki India Ltd, which was beaten down on fears of a strong yen. Clearly, a 25 basis points (bps) hike in the repo rate had already been factored into prices. Indeed, the BSE Bankex is actually up a bit this week.
A few analysts believe the revision of the expected inflation rate to 8% in March from 7% earlier is an indication of hawkishness on RBI’s part. We would think it’s merely an acknowledgement of reality. Nevertheless, it does underline the fact that high inflation is not going to go away in a hurry.
Also See Marginal Deceleration (PDF)
The headline inflation number for April may be lower, thanks to a high base, but that base effect is going to wear off soon, as inflation fell from 10% in July to 8.8% in August. Add to that pressures due to higher crude oil prices, with reports saying that retailers are facing losses of Rs15.79 per litre of diesel sold. The chances are the government will soon be forced to raise diesel rates, perhaps after the state elections. And then we have the pressures on the core inflation in non-food manufactured products—the RBI review says, “Producers are able to pass on higher input prices to consumers”—in other words, they now have pricing power and will pass on higher input costs.
Small wonder then RBI’s guidance says it is likely to persist with the current anti-inflationary stance, which means more rate hikes in future. How much more? Taking the one-year OIS (overnight indexed swap) at the current rate of around 7.4%, or around 65 bps more than the current repo rate of 6.75%, which means the market is expecting a further 50-75 bps hike in the repo rate over the next year.
At the same time, RBI has also acknowledged that risks to growth are emerging, in particular in investment demand. It says that the pace of credit growth has moderated since December. The chart shows that year-on-year (y-o-y) growth in non-food credit stood at 23% as on 25 February, slightly below the 23.5% y-o-y growth as on 17 December. The growth as on 31 December should be ignored because banks massage their loan numbers to show higher growth at the end of the quarter.
And finally, RBI echoes the widespread scepticism about the projected fiscal deficit for the year, when it says “this will materialize only if commitments to contain subsidies are adhered to”.
For the equity markets, the central bank’s review offers little comfort, as it paints a picture of both high inflation as well as challenges to growth.
Graphic by Ahmed Raza Khan/Mint
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