More than the expected rate cut of 25 bps, the most positive aspect of this policy is the change in stance from ‘neutral’ to ‘accommodative.’ Importantly, the RBI has shown that it is aware about the tight liquidity situation and is working towards bringing that down. With inflation remaining in check, this rate cut clearly sends the message across that RBI too is concerned about growth.
The market was not expected to rally on this 25 bps rate cut as this was already discounted for, which is why we saw the market falling further after the RBI announcement.
A quick look at the highlights of the policy:
- Cut in repo rate under the liquidity adjustment facility (LAF) by 25 basis points to 5.75 per cent from 6.0 per cent with immediate effect.
- Reverse repo rate under the LAF stands adjusted to 5.50 per cent, and the marginal standing facility (MSF) rate and the Bank Rate to 6.0 per cent.
- The MPC also decided to change the stance of monetary policy from neutral to accommodative.
- Rate cut in consonance with the objective of achieving the medium-term target for consumer price index (CPI) inflation of 4 per cent within a band of +/- 2 per cent, while supporting growth.
- Impact of recent policy rate cuts and expectations of a normal monsoon in 2019, the path of CPI inflation is revised to 3.0-3.1 per cent for H1:2019-20 and to 3.4-3.7 per cent for H2:2019-20, with risks broadly balanced.
- Risks around the baseline inflation trajectory emanate from uncertainties relating to the monsoon, unseasonal spikes in vegetable prices, international fuel prices and their pass-through to domestic prices, geo-political tensions, financial market volatility and the fiscal scenario.
- Considering the risk factors and impact of recent policy rate cuts, GDP growth for FY20 revised downwards from 7.2 per cent in the April policy to 7.0 per cent – in the range of 6.4-6.7 per cent for H1:2019-20 and 7.2-7.5 per cent for H2 – with risks evenly balanced.
It was very good to see the RBI concerned about growth and said that it has weakened significantly as reflected in a further widening of the output gap compared to the April 2019 policy. It was concerned with the sharp slowdown in investment activity along with a continuing moderation in private consumption growth. The RBI said, “the headline inflation trajectory remains below the target mandated to the MPC even after taking into account the expected transmission of the past two policy rate cuts. Hence, there is scope for the MPC to accommodate growth concerns by supporting efforts to boost aggregate demand, and in particular, reinvigorate private investment activity, while remaining consistent with its flexible inflation targeting mandate.” This attitude of the RBI, with one eye on inflation and one on growth is what the market wanted to see.
Currently, all uncertainties are out of the way. The elections are over, the new Govt is in place and RBI too has done its bit to give impetus to growth. But to expect RBI alone to spur growth is being too naïve. The Govt will now have to step up and do its bit to help boost consumption and bring in more private sector investment.
It also remains to be seen if and when banks pass on this rate cut to consumers; that’s key to any rate cut after all. But to expect major cuts would be foolish. Let us wait and watch how banks play this one.
Having said all this, today’s news of crisis building up in DHFL and Eros is worrisome; we are yet to resolve IL&FS and we have this another one cropping up. Everything pushed under the carpet seems to be coming out from the other side.