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Business News/ Politics / Policy/  RBI to stay the course in inflation fight
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RBI to stay the course in inflation fight

Interest rates left unchanged as RBI says inflation target 'continues to warrant policy preparedness'

In the monetary policy statement, RBI said the future policy stance will be influenced by the central bank’s projections of inflation relative to the medium-term objective of 6%, while being contingent on incoming data. Photo: Abhijit Bhatlekar/MintPremium
In the monetary policy statement, RBI said the future policy stance will be influenced by the central bank’s projections of inflation relative to the medium-term objective of 6%, while being contingent on incoming data. Photo: Abhijit Bhatlekar/Mint

Mumbai: The Reserve Bank of India (RBI) left interest rates unchanged on Tuesday, signalling that it has no intention of moving to a looser monetary policy until it reins in upside risks to the target of lowering consumer price inflation to 6% by January 2016.

The repo rate, at which RBI infuses liquidity into the banking system, remains at 8% and the cash reserve ratio (CRR), the portion of deposits that banks must maintain with the central bank in cash, stays at 4%. The repo rate has remained unchanged since 28 January, when it was raised to 8% from 7.75%.

“This (inflation target of 6%) continues to warrant policy preparedness to contain pressures if the risks materialise. Therefore, the future policy stance will be influenced by the Reserve Bank’s projections of inflation relative to the medium term objective (6% by January 2016), while being contingent on incoming data," RBI said.

RBI also kept banks’ mandatory bond holding ratio unchanged at 22% of deposits. It reduced the liquidity provided under the export credit refinance facility from 32% of outstanding export credit to 15% with effect from 10 October.

Analysts and investors had expected RBI not to touch interest rates, given latent inflationary pressures in Asia’s third-biggest economy and the central bank’s relentless fight against prices. All 51 economists in a pre-policy survey by Bloomberg had predicted that RBI would leave interest rates unchanged.

Consumer prices rose 7.8% in August, lower than July’s 7.96% but higher than June’s 7.46%.

RBI, under governor Raghuram Rajan, is targeting an inflation rate of 8% based on the Consumer Price Index (CPI) by January 2015, and wants to lower it by two more percentage points one year later.

“Clearly there is a lot more confidence in reaching the 8% target than the 6% target," Rajan said at a post-policy press conference, adding that the target could be challenging.

“As of now we are reasonably set...but a lot can happen in the world," Rajan said. “Oil prices, which are low now, can go up or they can go even lower. Every other factor is subject to some uncertainty. The policy will be data-contingent."

Uncertainties include how food prices behave. Lower crude oil prices, a stable exchange rate and slower growth in rural wages are the silver linings in the anti-inflation fight, according to Rajan.

He acknowledged that RBI’s internal modelling on inflation pointed to a 7% rate by January 2016.

RBI’s policy stance had been largely factored in, and had little impact on financial markets.

The rupee closed down 0.37% to 61.76 per dollar on Tuesday after touching a low of 61.825— a level last seen on 5 March—as traders fretted about a potential rise in US interest rates and Middle East tensions.

BSE’s benchmark Sensex rose 0.13% to close at 26,630.51 points. The yield on the 10-year benchmark bond ended at 8.51%, compared with Monday’s close of 8.49%.

The rupee slumped 2.5% against the dollar from 30 June, prices from local banks compiled by Bloomberg show, making it the biggest quarterly drop for the local unit in a year.

Rajan defended the rupee level, saying the value of the domestic currency had actually strengthened against a basket of multiple currencies.

Economists said Rajan’s determination to pursue his vigil against inflation means that the wait for a rate cut has just got longer.

India Ratings, the local arm of global credit rating agency Fitch Group, said RBI’s monetary policy review indicates that the earliest a rate cut is now possible is in the last quarter of the current fiscal year.

“RBI would rather wait than make the mistake of changing the policy stance before the inflation has been effectively tamed. We believe monetary easing will not be possible before 4QFY15. Also, the balance of risks is still on the upside due to risks from food price shocks and geo-political developments in the middle-east," India Ratings said.

For rates to come down from its present levels, the government has to step in and tighten fiscally, said Mole Hau, Asia economist at BNP Paribas SA.

“Central to rekindling India’s macro economic performance is a recasting of the policy mix, with sustained fiscal tightening needed to support RBI’s battle to regain inflation control and thereby eventually creating the space for interest rates to fall," Hau said in a note after the policy was announced.

The government is seeking to contain the fiscal deficit at 4.1% of gross domestic product (GDP) in the current year, down from 4.5% last year.

Hong Kong and Shanghai Banking Corp. Ltd (HSBC) also said the government will have to play a “stronger role" for inflation to ease, leading to lower interest rates.

“The RBI has taken a pragmatic approach and has not been swayed by the recent moderation in inflation or the sharp improvement in growth. The ball is now with the government to deliver on structural reforms and revive the investment cycle...that will lift growth and contain inflation," HSBC economists Frederic Neumann and Prithviraj Srinivas wrote in a note released after the policy review.

India’s GDP grew 5.7% in the quarter ended June, the fastest pace in two-and-a-half years and up from the March quarter level of 4.6%.

RBI retained its estimate of economic growth for 2014-15 at 5.5%, within a range of 5 to 6%.

“The key to a turnaround in the growth path of the economy in the second half of the year is a revival in investment activity—in greenfield as well as brownfield stalled projects—supported by fiscal consolidation, stronger export performance and sustained disinflation," the policy statement said.

Vishwanath Nair contributed to this story.

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Published: 30 Sep 2014, 11:08 AM IST
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