India’s central bank is likely to keep interest rates unchanged for the third meeting in a row as inflation remains stubbornly high and signs appear that growth begins to return to Asia’s third-largest economy.
The six-member Monetary Policy Committee is forecast to keep the benchmark repurchase rate at 4% on Friday, according to the 30 economists surveyed by Bloomberg as of Thursday. An increase in consumer prices forced the panel to pause after cutting rates by 115 basis points this year, although it is expected to conserve some ammunition to support growth by maintaining an accommodative stance for the near future.
“The RBI will be well served if it does not make changes to the buyback rate or its accommodative stance,” said Pranjul Bhandari, chief economist for India at HSBC Holdings Plc in Mumbai. She expects the central bank to update its forecasts on inflation and growth, as well as share its views on developments, including excess liquidity in the money market.
“It will probably stick to its future guidance for an accommodative stance until March 2021 and the next fiscal year,” said Abhishek Gupta, economist from India.
Growth outlook
The central bank, which expects the economy to contract 9.5% in the year to March, may revise its forecast after a smaller-than-expected drop in gross domestic product in the July-September quarter. For now, the economy is in a technical recession, and the RBI’s previous forecast was for a 5.6% contraction in the quarter through December, followed by a return to growth in the three months through March.
A separate Bloomberg survey for the December quarter showed economists were less pessimistic, with the median forecast a 2% contraction. For the full year, they expect an 8.7% decline, which is slightly milder than their previous prediction of an 8.9% drop.
High-frequency indicators suggest that activity rebounded in October due to festival demand and lower inventories. While some of those positives carried over into November, there are signs that demand is waning. Data on Thursday showed that activity in India’s dominant service sector cooled somewhat last month, with the Purchasing Managers Index falling to 53.7 from 54.1 a month ago. The composite index dropped to 56.3 from 58, IHS Markit said.
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Inflation forecast
Headline retail inflation well above 7% is a nightmare for monetary policymakers, as they are mandated to keep it between 2% and 6%. Late last month, RBI CEO and MPC member Mridul Saggar said more political space will be created only when inflation slows, and the central bank has cut rates in a “big deal.”
“Inflation shot up to 7.6% in October due to the increase in food prices, which makes it difficult to meet the forecast of 5.4% -4.5% of the MPC for the second half of the fiscal year,” said Kanika Pasricha, an economist at Standard Chartered Plc in Mumbai. “The MPC may seem wary of inflation.”
Economists at Nomura Holdings Inc. withdrew their request for 50 basis points of rate cuts in the first half of 2021, given rising inflation, while Kaushik Das, chief India economist at Deutsche Bank AG, sees no more room to make this cycle more flexible.
Performance management
With its hands tied by high inflation, the central bank has chosen to control borrowing costs through open market bond purchases, liquidity injections, and its own version of “Operation Twist,” where it sells short-term securities and buys from term securities in an attempt to ensure that the yield curve does not steep.
The resulting excess liquidity in the banking system has caused rates to collapse in the short term, raising questions about the effectiveness of the rate. As such, the RBI’s yield curve and liquidity management will be in focus on Friday.
The MPC’s views on liquidity will become more important, as the temporary surplus has slashed rates in the short term, said Radhika Rao, an economist at DBS Group Holdings Ltd. in Singapore.
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