The 2 February monetary policy review and Reserve Bank of India (RBI) governor Raghuram Rajan’s interaction with the media after the release of the policy didn’t have an iota of surprise. Rajan has taken every care to make the policy review a non-event ahead of the Union Budget which will be presented by the end of this month.
The key policy rate remained unchanged and ditto about banks’ cash reserve ratio (CRR), or the portion of deposits that commercial banks need to keep with the central bank. While there was near-consensus that RBI would not bring down the policy rate, there were half-hearted expectations in certain quarters that the governor might go for a token cut in CRR to ease the pressure on liquidity.
In his post-policy press conference, Rajan spoke about liquidity shortage in the system but was not willing to give too much importance to it. He is willing to release money into the system through many ways such as the RBI’s repo or repurchase window, and bond-buying from the market through the so-called OMO, or open market operations, but meticulously avoided the mention of CRR.
So, the bankers will have to live with Rs.1.5 trillion or more cash shortage in the system daily till such time the government decides to spend. Its cash balance kept with the central bank at this point is almost of the same amount.
Rajan has left the growth forecasts unchanged—7.4% for the current fiscal year (with a downside bias) and 7.6% for fiscal year 2007 despite the recent moderation in industrial activity.
On the inflation front, too, he is fairly confident about achieving 6% in January. The 5% target by March 2017 has been left unchanged with a caveat—this figure has not been factored in the impact of the 7th Pay Commission recommendations. This will put upward pressure on retail inflation; the central bank will adjust its forecast after clarity emerges on the timing of implementation.
This certainly shrinks the space which otherwise RBI would have got for paring rates. Anyway, retail inflation measured by the consumer price index (CPI) rose for a fifth successive month in December across all categories and household expectations for inflation remains elevated.
Does that mean there will not be any more rate cut even as Rajan has committed to continue with an accommodative monetary policy stance? There will be, but probably not as many rounds as the market had been expecting. The trajectory of monsoon will play a key role (along with the oil price movement). After two years of insufficient monsoon, probably this time around it will be normal; the Australian Weather Bureau has also predicted that El Nino conditions will fade over the next few months.
More than the monsoon, the onus is on the government to ensure that RBI continues with its accommodative stance and cut the policy rate from the current level. Describing Indian economy as a “beacon of stability” because of many factors such as steady disinflation, a modest current account deficit and the government’s commitment to fiscal rectitude, Rajan has urged the government to control spending and focus on structural reforms in the forthcoming budget.
If the budget follows this path and sticks to its commitment of reining in fiscal deficit at 3.5% of gross domestic product (GDP) in fiscal 2017, I bet that as a token of appreciation, Rajan will cut the rate by a quarter percentage point. For this, he may not wait for the next monetary policy review on 5 April. It can happen in March. But that may probably be the last of the rate cuts for the time being.
A lot will depend on the budget. Both for containing inflation as well as ensuring growth in Asia’s third largest economy, fiscal and monetary authorities need to work in tandem. A highly predictable policy statement of RBI once again iterated that.
