The Reserve Bank’s and the Monetary Policy Committee’s decision to do nothing at all to interest rates was widely anticipated and needs no defence. The second quarter GDP growth at 6.3 percent was higher than the first quarter’s growth of 5.7 percent; consumer inflation at 3.58 percent in November was the highest in five months and is all set to rise beyond 4 percent this month and to 4.7 percent by March.
For an MPC targeting a 4 percent inflation on a sustained basis, a pause on rate cuts was a logical decision. Any clarity on the government’s borrowing programme for this year or the next will emerge only by the next policy. In that sense this policy was more of the holding-fort kind.
There were no other surprises either. Liquidity in the banking system is expected to come to neutral (which means on some days RBI absorbs; on some days it lends) only by mid-2018. That too is in line with what veteran bond markets had calculated. Understandably, bond yields hardly moved.
What about the next leg of the policy? Is it a long pause or is a rate hike round the corner? That’s the question that worries economists and bond dealers. Governor Urjit Patel, answering a reporter’s question, said that the RBI’s stance will likely be neutral for a quarter or two. The question is will the RBI have to take a call on hiking rates or changing stance much earlier?
For instance, here’s how the RBI may be placed on February 7, the date of the next policy. It will have the December inflation number which will likely be closer to 5.5 percent and an advance Gross Value Added estimate for the full year which may be lower than 6.7 percent. It may also be faced with a fiscal deficit for FY18 that is higher than the 3.2 percent target. What is worse, it could also be faced with higher-than-tolerable deficit in the FY19 budget too, considering it will be the last year of the NDA government’s term. Will that be a recipe for a change in stance?
The MPC may well face an even bigger challenge in April. It may face an inflation average of 5 percent for the Jan-Feb period, a sub-7% GVA for the third quarter of FY18 and a sub 6.5% GVA for FY18.
If there is an oil shock, growth could be lower and inflation could be higher. The Fed too would have hiked rates a couple of times. Will the RBI have the heart to chase the 4% CPI target with the same verve that it has shown so far? Will it have the gall to change stance and even hike rates as early as April? Will it be pressured against doing so by the government? Clearly the RBI’s tougher policies lie in 2018.
Lastly, the more important announcements in today’s monetary policy were actually non-monetary in nature. The RBI lowered the rates that banks can charge small merchants who are willing to use POS machines for debit card payments. While not a quantum leap, this move certainly nudges forward the bid to formalise payments, move away from cash and establish audit trails.The RBI also announced that it has been working with the department of financial services to capitalise public sector banks in a way that rewards performance and punishes sloth. It declared that recapitalisation will come with reform. A laudable aim for sure. But should this announcement come from RBI? Is the RBI blurring the line between regulator and shareholder?