Does a softer 35 bps hike hints for a pause in repo rate ahead?
- In December 2022 policy, RBI hiked the repo rate by 35 bps to 6.25%. Consequently, the standing deposit facility (SDF) rate stands adjusted to 6%, and the marginal standing facility (MSF) rate and the Bank Rate to 6.50%.
RBI's rate hike by 35 bps was a welcome move and a much-needed one too. The central bank has continued to hike the repo rate since May this year to tame stubbornly high inflation. It hiked the policy rate aggressively by 50 bps three times in a row from June to October. So when a much smaller size rate hike is given, it comes as a positive move, indicating that the peak inflation is behind us. So, does that mean is a likelihood of a pause in the repo rate hike trend in the upcoming policies?
In December 2022 policy, RBI hiked the repo rate by 35 bps to 6.25%. Consequently, the standing deposit facility (SDF) rate stands adjusted to 6%, and the marginal standing facility (MSF) rate and the Bank Rate to 6.50%.
So far in FY23, the central bank has increased the repo rate by 225 bps. The first hike was of 40 bps in May, followed by three consecutive 50 bps rate hikes between June to October, and the latest to be is a 35 bps hike earlier this week for December policy.
In October, CPI inflation moderated to 6.8% from the five-month high of 7.4% in September, due to favourable base effects mitigating the impact of a pick-up in price momentum. Also, food inflation softened.
RBI said, the inflation trajectory going ahead would be shaped by both global and domestic factors.
Sure, inflation has eased but let's not forget RBI has also kept its 'withdrawal of accommodation' stance unchanged -- hinting that the war to bring inflation to the tolerance limit is still not over yet. In fact, RBI also increased its inflation target for Q3FY23 and Q4FY23 slightly to 6.6% and 5.9% respectively compared to the October policy's trajectory of 6.5% and 5.8%. Overall, RBI's inflation target of 6.7% remained unchanged. Going forward, for Q1 of FY24, RBI kept its inflation target unchanged at 5%, however, the central bank expects consumer prices to rise to 5.4% in Q2 of FY24.
Although, one should also take note that RBI expects inflation to come below its upper tolerance limit of 6% from Q4 of FY23.
RBI aims at achieving the medium-term target for consumer price index (CPI) inflation of 4% within a band of +/-2% while supporting growth.
So, inflationary pressure is still there?
After the 35 bps rate hike, Prasenjit K. Basu – Chief Economist, ICICI Securities said, " We do not view this as evidence of any intent to further tighten policy in subsequent MPC meetings, but merely as an acknowledgment of the persistence of excess liquidity currently—which the RBI will drain daily, as it has for the past 9 months."
Basu added, "The smaller rate hike will be passed through to depositors and borrowers quite quickly this week. But the good news (in our view) is that further rate hikes are unlikely. Fuel inflation will ease unless there are unexpected surprises from the west-imposed cap on Russian seaborne oil exports, and the good Kharif harvest should allow food inflation to moderate as well."
On the other hand, Indranil Pan – Chief Economist, Yes Bank believes a lower pace of rate hike no way signals a pause. In their research note, the economist said, the policy stance has remained unchanged with a 4:2 vote favoring ‘withdrawal of accommodation to ensure inflation remains within target while supporting growth’.
Also, Pan pointed out that the RBI remains confident in its assessment that the peak inflation is behind us but now highlights that the main risk to headline inflation comes from a) sticky and elevated core; b) uncertainty with respect to global commodity prices (note that aluminum and zinc prices have bounced off lows while crude oil prices have moderated); c) adverse climate changes being a continued concern for food prices including cereals and milk; and d) resurgence in demand for the domestic services sector.
Further, the economist's note said, "RBI notes that in Q4 FY23 headline inflation is forecasted to come below 6% threshold and is expected to moderate further to an average of 5.2% in H1 FY24. More significant to us is the comment “but will still remain well above the target”."
This, to a large extent, should provide a signal that the RBI will be searching for its 4% target of Headline CPI inflation, rather than adhering to the flexible band (as they had done during the uncertain periods of Covid and supply shocks), Yes Bank's economist added.
Also, Pan's note said, that the moderation in the pace of rate hikes by the RBI would sync with the expected reduced pace of hikes consistently signaled by the US Fed.
Yes Bank's economist now expects RBI to raise the repo rate by 25 bps in February 2023 and remain open to more rate increases in FY24, but this could be crucially dependent on the global rate hike cycle, currency market dynamics and the pace at which domestic inflation comes down.
Meanwhile, HDFC Bank economists report stated that the December 2022 policy indicated more rate hikes are in the offing. They expect the terminal rate to be close to 6.5-6.75% in this cycle.
Disclaimer: The views and recommendations made above are those of individual analysts or broking companies, and not of Mint.
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First Published:11 Dec 2022, 06:57 AM IST
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