RBI monetary policy tomorrow: 3 reasons why central bank may keep rates on hold
The Reserve Bank of India (RBI)’s monetary policy committee (MPC) is likely to keep interest rates unchanged on account of several upside risks to inflation.
All but one of 15 economists surveyed by Mint expect RBI to keep the repo rate—the rate at which the central bank lends to banks—unchanged at 6%. One economist expects a 25 basis point hike (a basis point is one-hundredth of a percentage point).
Here are three reasons the central bank may keep rates on hold:
Inflation: Retail inflation, as measured by the Consumer Price Index (CPI), has already breached 4%, RBI’s medium-term target, for two consecutive months. Rising oil prices and the lingering impact of a rise in house rent allowance, as part of the Seventh Pay Commission’s recommendations, are likely to keep future inflation prints elevated. Additionally, some economists are also pricing in the potential impact on inflation of the budget proposal to hike minimum support prices (MSPs).
“Details are scant at the point of writing, though in the past, instances of a sharp increase in MSPs have coincided with high food inflation, spurring concerns over generalized price pressures. RBI will thereby flag the projected fiscal slippage, oil and higher MSPs as risk factors,” said Radhika Rao, economist at DBS Bank.
Oil prices: Higher oil prices have been a key factor contributing to the rise in inflation. A further rise in prices will impact not only inflation but also other indicators such as the current account deficit as well as growth because India is a net importer of oil. According to the US Energy Information Administration (EIA), the price of Brent crude, the global benchmark, which averaged $54 per barrel in 2017, is forecast to average $60 per barrel in 2018 and $61 per barrel in 2019. EIA also expects India and China to be the largest contributors to growth in petroleum and other liquid fuels consumption in non-OECD (Organisation for Economic Co-operation and Development) countries in 2018 and 2019. According to the Economic Survey this year, a $10 per barrel increase in the price of oil reduces growth by 0.2-0.3 percentage points.
Bond yields: Going by the current surge in bond yields, interest rates in India are unlikely to come down anytime soon. Bond yields, which reflect the interest rate trajectory, have risen because of higher supply, worries over inflation and fiscal slippage—the government raised fiscal deficit target for 2018-19 to 3.3% of gross domestic product from 3%.
Part of it was also because of fears of an interest rate hike. But the market has not yet priced in the possibility of a rate hike. The bond market is not entirely convinced with the government’s plan of funding the deficit. “We think the revenue targets are on the optimistic side, particularly on recently-introduced GST tax revenue growth. We estimate a 20 bps upside risk to the fiscal deficit in FY19, unless economic activities formalize at a rapid pace over the coming year to generate the necessary buoyancy in revenues,” according to a Goldman Sachs report dated 1 February.
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