Economy
Credit policy: the language, and other factors to look out for
Summary
While there may not be any significant markers in the upcoming monetary policy, some changes could be expected in the GDP forecast as Q2 growth was higher than RBI’s projection. This is important as there are several conflicting data sets that both support as well as question the India growth story
Two factors are of utmost importance whenever the Reserve Bank of India presents its monetary policy.
The first has everything to do with numbers: the repo rate, GDP and inflation forecasts, and the policy stance, which is observed keenly by everybody.
The other factor, which is not overt but always read carefully, is the language. No changes in the policy rates or forecasts can still have the market guessing and conjecturing if the language is different. The tone of the policy can make a difference, which is first felt on the bond yields.
So what will it be this time? The repo rate will be kept unchanged. The reason is that inflation is still around 5%, which is well over the 4% target reiterated by the RBI governor. Also, with the prices of onions and tomatoes going up, and which will be exacerbated by the unseasonal rains, consumer price index (CPI) inflation rate will likely move towards the 6% mark again.
Add to this the not-so-good news on the two harvests. Kharif, or monsoon crop, output is already declared to be lower than that of last year, with pulses showing higher inflationary signs. Besides, reservoir levels are lower this time, which can affect the rabi, or winter, crops. Also, rabi sowing so far has been lower than that of last year. Therefore, food inflation has to be monitored closely as these factors play out.
Besides, with Q2 GDP growth exceeding projections, RBI need not really worry about growth. The pandemic stance of doing everything to protect growth is not relevant now.
On the other hand, core inflation is quite benign at 4% or so, and will continue to be in this region. Hence, there is no case for increasing the repo rate, although the overnight indexed swap (OIS) rates are in the 6.80-90 region.
How about the stance? RBI had mentioned earlier that as the transmission of the repo rate hike had not yet been completed there was scope still for withdrawal of accommodation. The increase in the weighted average lending rate (WALR) on fresh loans has been of the order of just 200 basis points so far, as against the 250 bps hike in the repo rate.
In the case of deposits, it was better for fresh deposits, where the average rate increase was 228 bps. Therefore, it stands to reason that the stance will also remain unchanged.
Of interest will be the commentary. Post the imposition of the incremental cash reserve ratio (ICRR) in the August policy, the bond markets were spooked as liquidity had been taken out of the system. Yet in the October policy, RBI spoke of conducting OMO sales (open market operations), which means there were indications of taking out liquidity when there was a liquidity squeeze in the system.
While there have been no announcements, the messaging was strong and liquidity has remained tight in the market with the marginal standing facility (MSF) being of a high order of about Rs2 lakh crore on several days.
Any statement on liquidity will be of interest to the market as it would reveal how RBI is thinking about the situation. With perennial deficits in the system, ideally OMO (purchases) or repo and variable repo rate auctions would be called for to bring the system back to normal. Not doing anything, however, can send a strong message that RBI is satisfied with the deficit situation.
RBI has already made its impact on the growth of unsecured loans of banks, and hence, from a regulatory point of view, there may not be any new significant policy. There could be some changes expected in GDP forecasts as the Q2 growth rate of 7.6% was much higher than RBI’s projection of 6.5%. This is important as it would throw light on the second half of the financial year, as there are several conflicting data sets that both support as well as question the growth story. The state of the rural economy falls in the latter category.
Inflation forecasts would probably not be altered; and if at all, would be more in the upward direction.
These two numbers are significant because these could indicate the call on interest rates in the coming months. If inflation forecasts are to be above 5% in the next few quarters it would virtually indicate that there will be no rate cuts this financial year, which is also what the market has assumed.
Madan Sabnavis is chief economist at Bank of Baroda, and author of ‘Corporate Quirks: The darker side of the sun’. Views are personal.
