RBI likely to cut policy rate by 25 basis points in Aug: Bank of America Merrill Lynch

Better supply management and check on hoarding should be able to prevent food price spikes

The Reserve Bank of India is likely to cut benchmark rate by 25 basis points in its policy meet on August 4 provided rains are normal, a Bank of America Merrill Lynch report says.

"We now expect RBI Governor Raghuram Rajan to cut policy rate 25 bps on August 4 if rains remain normal," Indranil Sengupta, chief economist India at BofA-ML, said in a research note.

According to the global financial services firm, 'agflation' (rising food prices caused by increased demand for agricultural commodities) is in check and the June CPI inflation is likely to stay soft at 5.2 per cent. Moreover, early rains have supported cropping and improved river water levels. Besides, buffer rice stock will help contain inflation in the case of a drought.

The report noted that with the Fed sounding relatively "dovish", rains hold the key to a 25-basis point RBI rate cut on August 4, especially if Greece issue is sorted out and the markets do not react negatively to the Fed statement on July 29.

"...despite the government's best efforts, high agflation is inevitable if it does not rain now. At the same time, better supply management and check on hoarding should be able to prevent food price spikes beyond the seasonal pressures," the report added.

In the June 2 policy review meet, the RBI had cut repo rate by 0.25 per cent for the third time this year to spur investment and growth, but hinted that there may not be any more cuts in the near term.

RBI cut the repo rate (short-term lending rate) from 7.5 per cent to 7.25 in June, but left all other policy tools such as cash reserve ratio (CRR) and statutory liquidity ratio (SLR) unchanged at 4 per cent and 21.5 per cent, respectively.

The BofA-ML report further noted that Greece is a new worry, with uncertainty likely to persist till the Greek referendum on July 5 at the very least.