6.4.18

RBI Holds Rates

The Reserve Bank kept interest rates unchanged as widely predicted but surprised the market by lowering inflation expectations, bringing them closer in line with those of independent economists after having maintained them consistently higher in the past.

It warned of financial instability stemming from intensification of the ongoing global trade war and the unwinding of the easy monetary policy by developed nations.

The central bank rolled out an optimistic economic growth forecast for the current year at 7.4%, up from 6.6% in FY18, supporting the theme of a broad revival and an investment pickup amid greater demand for loans.

The repo rate, at which RBI lends to banks, was kept at 6% with five of the six members of Monetary Policy Committee voting in favour of the status quo besides continuing “with the neutral stance”.

The dissenter, RBI executive director Michael Patra, sought an increase in the repo rate by 25 basis points, or 0.25 percentage point.

RBI said the inflation trajectory in the first half of the current fiscal was expected to be lower than the projection in the February statement, given the sharp moderation in food prices in February-March.

The likely deterioration in the government’s fiscal math due to higher minimum support prices for farm products and lower-than-expected revenues notwithstanding, RBI said economic expansion for the current fiscal year is forecast at 7.4%, up from the 6.6% estimate for FY18.

The threat of inflationary pressures looms amid global trade acrimony and the climb in commodity prices. Brent crude is trading at $69.66 a barrel, sharply up from the 2016-17 average of $47.56 a barrel as tensions in the Middle East continue to simmer.

The MPC has a mandate to keep inflation as measured by the consumer price index at 4% with a two percentage point margin on either side. Finance minister Arun Jaitley had announced in the February Budget that the MSP for farmers would be pegged at 1.5 times their costs to help improve agriculture incomes. This move could well be inflationary as prices available to farmers for their harvest could increase by about 15%, according to an estimate by the government think tank Niti Aayog. This may result in an increase in farmers’ incomes by 24%.

The MPC said investment showed signs of picking up, auguring well for growth. Apart from a recovery in credit offtake in recent months, “the large mobilisation of resources from the primary capital market should support investment activity further”, RBI said.

The MPC said that, based on its current assessment, domestic demand is expected to strengthen during the course of the year.

The financial markets have turned volatile in the past few weeks as the US and China have been engaged in a tit-for-tat skirmish over import duties. The RBI fears that this could gather momentum and spread to other countries as domestic political compulsions will force them to adopt similar strategies.

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