Inflation may have peaked but the RBI's war not over
While the RBI did lower the quantum of the rate hike, the markets expected it to signal a pause in the coming days.
Inflation may appear to have peaked, but the war against rising prices is far from over, the Reserve Bank of India (RBI) said on Wednesday after the monetary policy committee raised the repo rate by 35 basis points.
With the latest hike, the policy rate has touched 6.25% after three back-to-back rate hikes of 50 basis points each in June, August and September.
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View All“The battle against inflation is not over," RBI governor Shaktikanta Das said. Bond yields rose as the market was expecting the central bank to indicate a pause in a rate hike.
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Das flagged risks from high and sticky core inflation and exposure of food inflation to global factors, along with the impact of adverse weather conditions. He went on to say that while being watchful of the impact of its earlier monetary policy actions, RBI will keep an unwavering watch on the inflation scenario. Retail inflation came in at 6.77% in October, which though lower than September, was still above RBI’s flexible inflation target of 2-6%.
“Our actions will be nimble and in the best interest of the economy. The aspect of growth will obviously be kept in mind," he said.
Referring to the domestic economy as a bright spot in an otherwise gloomy world, Das said India’s economic growth remains resilient. RBI, however, lowered its FY23 growth forecast by 20 bps to 6.8% and said it expects government-led investment activity to support capital expenditure.
Pointing out that inflation is set to moderate, RBI slightly raised its projections for the December and March quarters and retained the full-year forecast at 6.7%. It has now projected inflation in the December quarter at 6.6% and at 5.9% in the following three months. Consumer Price Index (CPI) inflation for the June quarter of the next fiscal is expected at 5% and at 5.4% in the September quarter, assuming a normal monsoon.
The hawkishness of the central bank’s statement on inflation appeared to have unnerved the bond markets. While RBI did lower the quantum of the rate hike, the markets expected it to signal a pause in the coming days, an indication RBI steered clear of. The 10-year benchmark bond yield rose to 7.3% from Tuesday’s closing of 7.249%.
“When a central bank combines its sanguine view on growth with continued concerns on inflation—particularly the persistence in core inflation—it suggests that it is prepared to continue its fight against inflation and has the space and willingness to raise rates further," HDFC Bank’s treasury research department said in a note.
The HDFC Bank note said the 10-year sovereign bond is expected to trade closer to 7.25-7.35% in the near term.
That said, RBI deputy governor Michael Patra pointed out that there is already a “shift in the wind", given that the quantum of the rate hike has moderated to 35 bps. “We remain on guard, far from neutral, until we see a durable decline in inflation and it staying within the tolerance band. But the good thing is what you are pricing in that is that we have lowered the size of the policy rate change. That is the most important thing, which, unfortunately, is getting priced in," Patra said.
Meanwhile, RBI has retained the stance of being focused on the withdrawal of accommodation, saying that adjusted for inflation, the policy rate still remains accommodative. Overall system liquidity remains in surplus, Das said, adding that in October-November, the average total absorption under the liquidity adjustment facility was ₹1.4 trillion, down from an average of ₹2.2 trillion between August and September.
RBI expects liquidity conditions to improve owing to moderation in currency in circulation, pickup in government expenditure, and higher forex inflows.
Although RBI is in the absorption mode, it is ready to conduct LAF operations that inject liquidity, it said.
“The lack of a shift to a neutral stance tells us that the committee still remains biased towards more hikes, but we believe the bar for further rate hikes is much higher," Barclays said in a note.
MPC members Shashanka Bhide, Ashima Goyal, Rajiv Ranjan, Michael Patra and the governor, voted to increase the policy repo rate by 35 bps, while Jayanth Varma voted against the hike.
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