Mumbai: After two successive rate hikes, the Reserve Bank of India’s (RBI) monetary policy committee (MPC) kept key policy rates unchanged on Friday, citing a benign inflation trajectory and downward revision to inflation projections, though the stance changed from neutral to “calibrated tightening".

The six-member MPC voted 5-1 to keep the repo rate unchanged at 6.5%. For the first time, RBI executive director Michael Patra, known to be the MPC’s most hawkish member, voted in favour of a pause, while calling for a shift in stance to calibrated tightening. Government-nominated Chetan Ghate was the only one of the six members to vote for a 25 basis points (bps) increase in the policy rate. One basis point is a hundredth of a percentage point.

The vote for the change in stance was also 5-1 with member Ravindra Dholakia rooting to keep the neutral stance unchanged.

The pause, combined with the stance, spells uncertain times for consumer finance and home-buyers. Banks are still likely to increase lending rates, thereby affecting borrowers’ EMI payments. Many banks are expected to reset their lending rates over the next few weeks to align them with RBI’s two previous interest rate increases. In addition, the stance of “calibrated tightening" may force banks to keep their hands on the interest rate lever.

The markets were surprised by the status quo on rates because it is at variance with global central bank rate actions. Markets were also disappointed with the policy statement failing to include any concrete measures on the rupee or providing a healing touch to the systemic instability posed by non-banking finance companies (NBFCs).

The rate action was contrary to expectations of economists surveyed by Mint. Governor Urjit Patel in a press conference said that rate cuts were off the table in the current rate cycle and that the central bank wouldn’t hike rates at every meeting. However, the changed stance has increased the possibility of further rate hikes, with inflation data being the deciding factor.

The central bank flagged off a list of upside risks to inflation even as it slashed its forecast for the headline number.

The MPC said the key risks to domestic prices come from volatile global financial markets, surging oil prices and possible fiscal slippages in the run up to elections—five state assemblies go to the polls before general elections next year.

“The inflation outlook calls for a close vigil over the next few months, especially because the output gap has virtually closed and several upside risks persist," said the policy statement.

The MPC lowered its inflation projection to 3.9-4.5% from 4.8% for the second half of the current financial year.

The rate-setting panel also highlighted its concerns on a possible growth slowdown on account of several headwinds, including high oil prices, volatile global financial markets, intensifying trade wars and growing uncertainty in the domestic financial landscape.

The panel retained the gross domestic product (GDP) estimate for the current year at 7.4% and pegged FY20 GDP at about 7.6%.

“We believe inflation is expected to overshoot RBI’s estimate in second half by 20-30bps. Additionally, tightening global financial conditions may further weigh on rupee. We continue to expect 25-50bps of rate hikes in the rest of FY19 to ensure financial stability amid global and domestic headwinds," said Upasna Bhardwaj, senior economist, Kotak Mahindra Bank.

The decision by the MPC to pause on policy rates comes at a time when liquidity conditions have tightened and there are worries that defaults by Infrastructure Leasing and Financial Services Ltd (IL&FS) could lead to a contagion.

According to Abheek Barua, chief economist at HDFC Bank, the hold on policy rates could well keep domestic bond yields and interest rates in the wholesale market under check, helping NBFCs which are facing a liquidity crunch. However, Barua added that the market was expecting the MPC to use the rate hike to defend the rupee.

“The risk of not containing the depreciation pressures on the rupee allows the spillover to other asset classes like equities to continue. This could make the case for a hike and a stronger communication. However, the RBI has made a clear choice and underplayed this risk," Barua said.

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