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RBI's new market-friendly policy indicates there could be more cuts ahead

RBI Governor Shaktikanta Das. File photo.
The decision to lower rates by 25 basis points (bps) does come as a surprise though the change in stance was on expected lines. Quite clearly, the Reserve Bank of India (RBI) and the Monetary Policy Committee (MPC) have decided to provide the final push to demand at the end of the fiscal by lowering rates. As four members have voted in favour, this is quite significant as it does indicate that this stance will continue in the new fiscal as well.

The decision to lower rates is surprising because the main factor which determines policy decision, i.e. CPI inflation potential remains unchanged. The risks of monsoon, higher food prices, oil prices, demand led inflation pressures etc are factors that had led to a status quo decision by the RBI earlier. However, this time the stance has changed and the expectation is that inflation will be 2.8 per cent in the fourth quarter (Q4), which justifies this move. 

For the next year, too, the MPC has projected inflation to reach not more than 3.9 per cent in H2FY20 (second half of financial year 2019 – 20), which will be lower than the target of 4 per cent. As long as this target holds, one can expect further cuts during the year; and depending on how the inflation rate moves, one may expect 25-50 bps cut going ahead.

The decision is positive for the market, as it will bring down rates for sure especially for G-Secs. This will help in mark to market (MTM) for banks at the end of the year, given that the holdings are high.

Borrowers will benefit from lower rates for sure. That said, at this point of time, there may not be too many new projects being undertaken till probably the general election results are known in May. However, this will be positive for the retail segment, especially mortgages, where the interim budget has first made real estate more attractive for households. If banks follow suit and lower rates, it would help in generating demand. Most banks, including the public sector banks (PSBs), have been favouring retail lending given that the portfolio remains more robust compared with other loans. Banks may continue to be cautious in terms of lending to companies, as the NPA (non-performing asset) issue still needs of be addressed, even though the incremental quality of assets has stabilised. Also, they may be sticky in lowering deposit rates given that the growth in deposits so far this year has been lower than growth in credit.

The RBI also has taken a view that inflation will be less than 4 per cent for the next year as well. This would be interesting to track because the potential to inflation is quite high, especially with oil and food prices coming under pressure. 

On growth, surprisingly the view taken is that it would be just 7.4 per cent. This means the economy may not see any significant changes in dynamics involving investment or consumption, and it would be just marginally above 7.2 per cent achieved this year. The central bank has quite rightly pointed out that investment has not been buoyant and has been driven by the government and not private sector. With growth assumed to be virtually unchanged, it does appear that there may be no significant change here. In fact, the government, too, would have to review their capex plan for the next year when the main budget comes out. 

On the whole, this has been a very good beginning for the new RBI Governor and sends positive signals to the market. The decision will be interpreted as being more market friendly, and that’s the major message to take home.
The author is Chief Economist, CARE Ratings. Views are personal

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