The Reserve Bank of India (RBI) on Friday surprised the markets by keeping the policy rates unchanged even as it shifted its stance to “calibrated tightening”.
The central bank indicated it was in no mood to stop the rupee slide in order to preserve the country’s export competitiveness.
The six-member monetary policy committee (MPC) of the RBI voted five to one to maintain the status quo.
Chetan Ghate voted for a rate hike while Ravindra Dholakia voted to keep the policy stance unchanged at “neutral”.
The policy rate stands at 6.50 per cent, and will only go up from here. At its peak in this cycle, the policy rates were at 8 per cent in January 2015. The RBI moved to the neutral stance from “accommodative” in the February 2017 policy.
“Today’s stance of ‘calibrated tightening’ essentially means that in this cycle, a rate cut is off the table and that we are not bound to increase rates at every meeting because that is not required, given our inflation outlook and forecasts at this point in time,” said Urjit Patel in a post-policy conference.
In his opening statement, Patel said allowing flexible exchange rate adjustments, without undue volatility, would help the “reorient current account balance given revised terms of trade”.
Deputy Governor Viral Acharya said: “[T]he RBI’s stated policy has always been to manage undue volatility rather than a very specific level, and as the governor already articulated, exchange rate adjustment is an important part of how your economy adjusts to trade shocks.”
The rupee slid past the 74 a dollar level to reach the day’s low of 74.23, but was brought up by heavy intervention to close at 73.76 a dollar, against its previous close of 73.58.
The Sensex plunged as much as 967 points amid a sharp sell-off in financial stocks, but recovered to close at 34,377, down 792.2 points, or 2.25 per cent.
The bond yields, however, recovered sharply responding to the status quo. The bond market was certain the RBI was going for a hike of at least 25 basis points.
The yields on the 10-year bond closed at 8.02 per cent from 8.157 per cent a year ago.
Without committing himself on whether lending rates would go up, State Bank of India (SBI) Chairman Rajnish Kumar said the RBI decision to keep the policy rate unchanged while changing the stance to calibrated tightening “seems to be dictated purely by a benign inflation trajectory and considering the rising uncertainty in global markets, possible weakening in global trade and financial stability considerations”.The RBI could also be falling behind the curve in Asia, economists said.
“The RBI’s stance to keep rates on hold runs counter to the emerging markets tightening bias, in the face of rising US rates,” said Radhika Rao of DBS Bank.
“The MPC’s decision to stand pat is a clear signal that inflation remains the anchor of monetary policy. Interest rates will not be used to manage the currency, but the MPC will respond to the inflationary consequences of depreciation,” said Nomura economist Sonal Varma.
The change in stance would mean that rates would either remain unchanged, or will rise from here. Therefore, the domestic bond yields would likely to rise going forward at a time when the US yields have crossed 3 per cent and are rising.
The policy document said that growth is on a firm footing, while inflation is declining for now, aided by food inflation remaining “unusually benign.” Inflation in key food items such as pulses, edible oils, sugar, fruits and vegetables remains “exceptionally soft at this juncture.” Add to it, kharif crops production is also better than last year. Rabi crops are also expected to be good considering live storage in major reservoirs.
However, the RBI was concerned about the rise in crude oil prices that have firmed up by $13 a barrel since the August policy. Volatility in international financial markets may also put some pressure on prices, the RBI warned.
Nevertheless, the central bank lowered the inflation projection to 4 per cent in the second quarter of fiscal 2018-19, 3.9-4.5 per cent in the second half and 4.8 per cent in the first quarter of next financial year. The earlier projections on this count was 4.6 per cent, 4.8 per cent and 5 per cent respectively. The projections include impact of house rent allowance, which is dissipating gradually. But the MPC would keep “close vigil” on the second-round effects of this HRA impact on inflation.
While the September round of the Reserve Bank’s survey of households reported a sharp uptick of 50 basis points in three-month ahead inflation expectations, one-year ahead expectations moderated by 30 basis points.
The RBI governor said the excise duty cut in fuel prices must have been penciled in while the government announced it would keep fiscal deficit at 3.3 per cent of the gross domestic product.
Having said that, India should strengthen its fundamentals.
“The MPC notes that global headwinds in the form of escalating trade tensions, volatile and rising oil prices, and tightening of global financial conditions pose substantial risks to the growth and inflation outlook. It is, therefore, imperative to further strengthen domestic macroeconomic fundamentals,” the policy document said.
The RBI officials also tried to allay fears about the contagion effects from the IL&FS debacle.
"The measures taken by government are apt and RBI will also engage with the new management of IL&FS, if necessary for any assistance," said Patel in his opening statement.
In the post-policy conference, deputy governor N S Vishwanathan said the RBI was closely monitoring the sector, and the “NBFC sector overall is quite strong and the regulatory framework is robust.”
However, the NBFCs must get out of their habit of financing their long term needs by raising short-term funding, said deputy governor Acharya.
“Chasing lower marginal costs of funding in order to acquire or retain market share in lending is a myopic strategy,” Acharya said.
Another important measure that the central bank proposed on Friday was asking foreign portfolio investors to adopt a scheme where they voluntarily commit to retain in India a minimum required percentage of their investments for a period of their choice, in return of gaining some regulatory and operational flexibility, such as investing in instruments of their choice and allowing flexibility to invest in corporate bonds.
The RBI had put restrictions on this count in earlier this year, but recently lifted the controls as part of government’s five-point measure to stabilise rupee. However, the RBI’s statement indicates that those caps would be back for those who won’t volunteer for the scheme.
The central bank indicated it was in no mood to stop the rupee slide in order to preserve the country’s export competitiveness.
The six-member monetary policy committee (MPC) of the RBI voted five to one to maintain the status quo.
Chetan Ghate voted for a rate hike while Ravindra Dholakia voted to keep the policy stance unchanged at “neutral”.
The policy rate stands at 6.50 per cent, and will only go up from here. At its peak in this cycle, the policy rates were at 8 per cent in January 2015. The RBI moved to the neutral stance from “accommodative” in the February 2017 policy.
“Today’s stance of ‘calibrated tightening’ essentially means that in this cycle, a rate cut is off the table and that we are not bound to increase rates at every meeting because that is not required, given our inflation outlook and forecasts at this point in time,” said Urjit Patel in a post-policy conference.
In his opening statement, Patel said allowing flexible exchange rate adjustments, without undue volatility, would help the “reorient current account balance given revised terms of trade”.
Deputy Governor Viral Acharya said: “[T]he RBI’s stated policy has always been to manage undue volatility rather than a very specific level, and as the governor already articulated, exchange rate adjustment is an important part of how your economy adjusts to trade shocks.”
The rupee slid past the 74 a dollar level to reach the day’s low of 74.23, but was brought up by heavy intervention to close at 73.76 a dollar, against its previous close of 73.58.
The Sensex plunged as much as 967 points amid a sharp sell-off in financial stocks, but recovered to close at 34,377, down 792.2 points, or 2.25 per cent.
The bond yields, however, recovered sharply responding to the status quo. The bond market was certain the RBI was going for a hike of at least 25 basis points.
The yields on the 10-year bond closed at 8.02 per cent from 8.157 per cent a year ago.
Without committing himself on whether lending rates would go up, State Bank of India (SBI) Chairman Rajnish Kumar said the RBI decision to keep the policy rate unchanged while changing the stance to calibrated tightening “seems to be dictated purely by a benign inflation trajectory and considering the rising uncertainty in global markets, possible weakening in global trade and financial stability considerations”.The RBI could also be falling behind the curve in Asia, economists said.
“The RBI’s stance to keep rates on hold runs counter to the emerging markets tightening bias, in the face of rising US rates,” said Radhika Rao of DBS Bank.
“The MPC’s decision to stand pat is a clear signal that inflation remains the anchor of monetary policy. Interest rates will not be used to manage the currency, but the MPC will respond to the inflationary consequences of depreciation,” said Nomura economist Sonal Varma.
The change in stance would mean that rates would either remain unchanged, or will rise from here. Therefore, the domestic bond yields would likely to rise going forward at a time when the US yields have crossed 3 per cent and are rising.
The policy document said that growth is on a firm footing, while inflation is declining for now, aided by food inflation remaining “unusually benign.” Inflation in key food items such as pulses, edible oils, sugar, fruits and vegetables remains “exceptionally soft at this juncture.” Add to it, kharif crops production is also better than last year. Rabi crops are also expected to be good considering live storage in major reservoirs.
However, the RBI was concerned about the rise in crude oil prices that have firmed up by $13 a barrel since the August policy. Volatility in international financial markets may also put some pressure on prices, the RBI warned.
Nevertheless, the central bank lowered the inflation projection to 4 per cent in the second quarter of fiscal 2018-19, 3.9-4.5 per cent in the second half and 4.8 per cent in the first quarter of next financial year. The earlier projections on this count was 4.6 per cent, 4.8 per cent and 5 per cent respectively. The projections include impact of house rent allowance, which is dissipating gradually. But the MPC would keep “close vigil” on the second-round effects of this HRA impact on inflation.
While the September round of the Reserve Bank’s survey of households reported a sharp uptick of 50 basis points in three-month ahead inflation expectations, one-year ahead expectations moderated by 30 basis points.
The RBI governor said the excise duty cut in fuel prices must have been penciled in while the government announced it would keep fiscal deficit at 3.3 per cent of the gross domestic product.
Having said that, India should strengthen its fundamentals.
“The MPC notes that global headwinds in the form of escalating trade tensions, volatile and rising oil prices, and tightening of global financial conditions pose substantial risks to the growth and inflation outlook. It is, therefore, imperative to further strengthen domestic macroeconomic fundamentals,” the policy document said.
The RBI officials also tried to allay fears about the contagion effects from the IL&FS debacle.
"The measures taken by government are apt and RBI will also engage with the new management of IL&FS, if necessary for any assistance," said Patel in his opening statement.
In the post-policy conference, deputy governor N S Vishwanathan said the RBI was closely monitoring the sector, and the “NBFC sector overall is quite strong and the regulatory framework is robust.”
However, the NBFCs must get out of their habit of financing their long term needs by raising short-term funding, said deputy governor Acharya.
“Chasing lower marginal costs of funding in order to acquire or retain market share in lending is a myopic strategy,” Acharya said.
Another important measure that the central bank proposed on Friday was asking foreign portfolio investors to adopt a scheme where they voluntarily commit to retain in India a minimum required percentage of their investments for a period of their choice, in return of gaining some regulatory and operational flexibility, such as investing in instruments of their choice and allowing flexibility to invest in corporate bonds.
The RBI had put restrictions on this count in earlier this year, but recently lifted the controls as part of government’s five-point measure to stabilise rupee. However, the RBI’s statement indicates that those caps would be back for those who won’t volunteer for the scheme.
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