RBI Rate Cut

Will the MPC bite the bullet in the June Credit Policy?

A day after the GDP data was announced, there was little impact on the stock markets. Markets were expected to correct sharply after the weak Q4 GDP data. But the equity markets were giving a different twist to the argument. Markets believed that the weak inflation and tepid Q4 data may create a situation that is conducive for the RBI to cut rates. That brings us to the core question; can the markets expect a rate cut from the RBI in the June 2017 policy?

Ok, there is a case to cut rates…

A quick look at the minutes of the last few meetings of the Monetary Policy Committee (MPC) make it evident that inflation has been the key issue for the RBI to reverse its dovish stance on repo rates. With CPI inflation and food inflation remaining way below the levels of the previous year’s average, there is surely a strong case to cut rates. This view gets reinforced when one looks at the GDP data. In the first MPC meeting in October 2016, the rates had been cut by 25 basis points. At that time there was near unanimity among the members to cut repo rates to spur GDP growth. That point will come back to haunt the MPC when they meet on June 05th and June 06th. With a combination of sustained low inflation and tepid growth, the RBI will surely have a case to consider a rate hike in this policy. Of course, the MPC will have to rely on the available macro data points only.
MCLR, Fed rates and monsoons…

These are the three factors that will eventually determine whether the MPC chooses to cut rates or not. Firstly, the banks have cut their MCLR by over 90 basis points since demonetization. However, credit growth continues to languish at a 50-year low despite the transmission of rate cuts exceeding 100% since January 2015. Secondly, the US Fed rate action will be a critical factor in determining the future course of the RBI. Any hawkishness beyond the original 2 rate hikes guided in June 2017 will make the RBI cautious. Lastly, the monsoon forecasts are rosy but it will have to be seen how the quantum and spread of rainfall shapes up. Timely rains will also matter.

So, what will the RBI do in June?

It may be a difficult choice for the MPC, but they may choose to maintain status quo in June more to bide time till the actual data points are out. The MPC may choose to postpone the rate cut decision to its next meeting in August. By then the trajectory of the monsoons as well as the Q1 growth numbers will be visible. The US FOMC would have had two more meetings by then in the months of June and July. Therefore the MPC may choose to maintain status quo in the June policy but may seriously consider a rate cut in the August policy. That is, assuming that there are no surprises in the data flows!