India’s central bank likely to cut rates despite inflation risk

Economists expect liquidity and regulatory measures from the Reserve Bank of India to address demand shocks and financial market dislocations. (AFP file photo)
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Updated 03 August 2020

India’s central bank likely to cut rates despite inflation risk

  • Annual retail inflation rose in June to 6.09 percent from 5.84 percent in March
  • Country was placed under one of the strictest lockdowns in the world in late March

MUMBAI: India’s worsening economic outlook as coronavirus cases soar has raised the chance the central bank will cut interest rates at its policy review on Thursday, in spite of inflationary pressures.
Around two-thirds of economists in a Reuters poll expect the Reserve Bank of India (RBI) to cut the repo rate by another 25 basis points (bps) on Aug. 6 to a record low of 3.50 percent, and once more next quarter.
“High inflation has added confusion to the Reserve Bank’s policy outlook, but given the state of aggregate demand, we forecast the RBI will continue easing,” said Rahul Bajoria, economist at Barclays who expects a 25-bp cut.
Annual retail inflation rose in June to 6.09 percent from 5.84 percent in March, remaining above the RBI’s medium-term target range of 2 percent-6 percent.
The RBI’s recent policies have focused on financial stability and the need to support growth despite the price target.
The country was placed under one of the strictest lockdowns in the world in late March for over two months to halt the spread of the coronavirus. The government gradually eased restrictions in June although infections continue to rise.
The poll showed most analysts expect the economy to contract 20 percent in the June quarter versus the April forecast of a 5.2 percent fall and remain in negative terrain until the December quarter.
For the full year 2020/21, the economy is likely to shrink 5.1 percent, which would be its weakest performance since 1979, a sharp contrast to the 1.5 percent expansion forecast in April.
Apart from rate cuts, Upasna Bharadwaj, economist at Kotak Mahindra Bank, expects liquidity and regulatory measures from the RBI to address demand shocks and financial market dislocations.
“RBI may look to widen the policy corridor to 75 bps by easing reverse repo by a higher quantum,” she said, adding that though they expect a 25-bp rate cut, it may not be effective in the current environment.
The RBI has already reduced the repo rate by a total of 115 basis points since February, on top of the 135 basis points in an easing cycle last year, from 6.50 percent, responding to slowing growth.
Some economists, however, feel it may be prudent for the RBI to pause in August before resuming its rate-cutting cycle once inflation has stabilized.
Weakness in growth versus above-target inflation, improving indicators and concerns over inflation expectations will put the RBI in a tough spot, said DBS economist Radhika Rao.
“It will be a close call, but we see slightly higher odds for a pause.”


Central bank: India has seen the worst, barring another wave of COVID-19

Updated 24 min 37 sec ago

Central bank: India has seen the worst, barring another wave of COVID-19

  • ‘Recent shifts in the macroeconomic landscape have brightened the outlook’
  • Central bank: Growth will be mostly consumption driven

MUMBAI: Barring another wave of COVID-19 infections, the worst is over for India’s economy and policymakers may soon have more room to support a recovery, the central bank said in its January bulletin released on Thursday.
“Recent shifts in the macroeconomic landscape have brightened the outlook, with GDP in striking distance of attaining positive territory and inflation easing closer to the target,” the Reserve Bank of India (RBI) said in an article on the state of the economy.
“If these movements sustain, policy space could open up to further support the recovery,” it added.
The RBI slashed interest rates early last year to cushion the shock from the coronavirus crisis, but has left rates unchanged in recent months, cautious of rising inflation.
The RBI expects Asia’s third-largest economy to contract by 7.5 percent in the current fiscal year to March, but analysts believe it is likely to escape recession and see modest growth in the current quarter.
Growth will be mostly consumption driven, the RBI said.
The need to kickstart investment is growing more urgent to secure a durable turnaround and a sustainable growth trajectory, the RBI said.
It also added that the cash sitting idly on the balance sheet of companies and banks and the funds parked with it at the reverse repo must find their way toward productive sectors and into real spending on investment activity, before it imposes a persistent deflationary weight on real activity.
The RBI said stress on financial sector balance sheets could increase, but banks are in a better position now than they were during the 2008 global financial crisis.
It also noted a “vigorous resumption” of government spending which acts as an important growth driver when all other components of GDP are in deep retrenchment due to the pandemic.
“Recent high frequency indicators suggest that the recovery is getting stronger in its traction and soon the winter of our discontent will be made glorious summer,” the RBI wrote, quoting William Shakespeare.