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Rate cut by RBI expected despite monsoon uncertainties

May 29, 2015 09:29 IST

RBI has indicated that the real interest rate should be around 150-200 bps

RBILack of transmission of past repo rate cuts and concerns regarding the impact of unseasonal rains on food prices had prompted the Reserve Bank of India to leave the repo rate unchanged at 7.5 per cent in its first bi-monthly monetary policy statement for 2015-16.

Transmission to base rates has subsequently started, although it remains incomplete. Belying the apprehensions related to excess rains and crop damage, retail inflation has cooled to 4.9 per cent in April 2015, creating a strong case for a 25-basis point reduction in the upcoming policy review.

Although India Meteorological Department’s initial forecast of a monsoon shortfall has added to risks surrounding the inflation trajectory, the extent of vulnerability to a sub-par monsoon appears limited at present, as the excess precipitation in recent months has recharged groundwater levels.

Moreover, adequate buffer stocks of wheat and rice as well as a global downtrend in prices of sugar and edible oils would dampen inflationary pressures.

Nevertheless, given the distress in the agricultural sector over the recent past, it is likely that the increase in minimum support prices will exceed the modest levels seen in the last year. 

RBI has indicated that the real interest rate should be around 150-200 bps.

Taking into account the risks of a mild monsoon deficit and MSP hikes and assuming that crude oil prices remain relatively stable around prevailing levels, ICRA expects Consumer Price Index-based inflation to average 5.5 per cent in 2015.

In this context, we believe that the repo rate could be reduced by a further 50 bps in the current year.

Notwithstanding the anticipated monetary easing, protracted constraints imposed by the weak asset quality of the banking system and high indebtedness of some corporate groups led us to expect a gradual revival in private investment activity in the near term.

As a result, enhanced spending on infrastructure by the government, and measures to incentivise private investment through rebalancing of risks with policies such as the hybrid annuity model, awarding of projects with major clearances in place, easing of foreign direct investment norms etc. will hold the key to accelerating economic growth in the current financial year.

Naresh Takkar is managing director & group chief executive officer, ICRA. The views expressed are personal.

Naresh Takkar
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