MPC alters tone, embracing growth optimism for FY24 | Mint

MPC alters tone, embracing growth optimism for FY24

Reserve Bank of India (RBI) Governor Shaktikanta Das with Deputy Governors Michael Debabrata Patra, M. Rajeshwar Rao, Swaminathan Janakiraman and T Rabi Shankar at the RBI headquarters in Mumbai. (PTI)
Reserve Bank of India (RBI) Governor Shaktikanta Das with Deputy Governors Michael Debabrata Patra, M. Rajeshwar Rao, Swaminathan Janakiraman and T Rabi Shankar at the RBI headquarters in Mumbai. (PTI)

Summary

  • Inflation outcomes in FY25 will be influenced by when the El Nino recedes

The Monetary Policy Committee’s (MPC) penultimate bi-monthly meeting for FY24 largely played out along expected lines. The policy rate and stance were left unchanged, with a unanimous, and a 5:1 vote, respectively. While inflation forecasts were unchanged, there was a sharp upward revision in the MPC’s growth forecasts for H2 FY24. Overall, rather than coming across as hawkish on inflation, the overarching tone of this policy was of optimism on growth.

This optimism was fuelled by the gross domestic product (GDP) print in Q2 FY24, which, at 7.6%, was significantly higher than MPC’s forecast of 6.5%, as well as our above-consensus projection of 7%. Besides, the MPC highlighted other reasons to remain positive on growth, including strengthening manufacturing activity, buoyant construction, recovery in rural sector, healthy balance sheets, improving business optimism, rise in public and private capex, and improvement in exports. These factors led to a substantial upward revision in the committee’s GDP growth estimates for Q3 FY24 by 50 basis points (bps) to 6.5%, and for Q4 by 30 bps to 6%. This enhanced MPC’s FY24 GDP growth forecast to 7% from the earlier, respectable, albeit sedate 6.5%.

Although we partly concur with the Reserve Bank of India governor’s and MPC’s assessments of the fundamentals of the Indian economy, we remain cautious about the near-term outlook for growth. Our concerns are driven by the agriculture sector, amid the sharp decline in kharif output for major crops, and lag in rabi sowing, in the backdrop of seasonally low reservoir levels. We expect this to manifest into little-to-no growth in agri gross value added (GVA) in H2, with attendant, non-negligeable risks for rural consumption.

Besides, we are circumspect around the sustenance of government’s capex momentum, execution of projects, and the pace of private capex, in the run up to general elections. This is likely to have some bearing on construction activity, which had played an important role in driving GDP growth in H1 FY24.

Additionally, we don’t expect a sustained turnaround in exports in the near term. The surge in merchandise export growth print in October was largely driven by the shift in the holiday calendar in 2023 versus 2022, and thus, should be interpreted with caution and not extrapolated. In fact, this holiday effect obfuscates year-on-year (y-o-y) comparisons in October and November for most high frequency indicators, making it more meaningful to look at average yoy growth performance for these months. On inflation, the MPC expects a pick-up in consumer price index (CPI) inflation in November-December owing to an unfavourable base and food prices uncertainty, in line with our expectations. It has kept CPI inflation projections for Q3 and Q4 unchanged at 5.6% and 5.2%, respectively, thereby maintaining its FY24 estimate at 5.4%. Thereafter, MPC expects CPI inflation to come in at 5.2% in Q1 FY25, see a base-led cooling to 4% in Q2 and rise to 4.7% in Q3 FY25.

These quarterly CPI projections are in line with our own estimates, barring Q2, wherein we expect a transient sub-4% print. Inflation outcomes in FY25 will be influenced by when the El Nino recedes, whether monsoon is normal, and if the annual bugbear of food price shocks rear their head(s).

Overall, while we broadly concur with the MPC’s assessment and outlook on inflation, we are more cautious on growth outlook. This leads us to believe that the policy rates are appropriate at the current juncture and no further tightening is warranted in near term, unless there is a shock to the CPI inflation trajectory. We expect MPC to maintain status quo for the next couple of policy meetings, while riding out uncertainties around LS polls. Thereafter, we expect a shallow rate cut cycle of 50-75 bps, starting August 2024 meet.

Although liquidity conditions have eased, it is likely to be intermittent, with impending tightening in the second half of December on account of the double whammy of advance tax outflows and GST payments, despite large redemptions in mid-December. Thus, open market operation sales will not be warranted immediately. Besides, the typical seasonal increase in the currency with public for the remaining part of the fiscal will lead to tightening pressure, unless there is sharp run-down in the government’s cash balances. Sustained OMO sales are unlikely, unless there are large capital inflows at the end of FY24, ahead of the Bond Index inclusion.

Aditi Nayar, chief economist, head of research and outreach, ICRA

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