RBI rate hike down, but not out

No wonder then, the central bank was anticipated to slow down its pace of monetary tightening with a smaller quantum of rate hike. That it did. Recall that in September and December, the RBI had hiked repo rate by 50bps and 35bps, respectively.

Also, a small section of economists was hoping that the central bank would change its monetary policy stance to neutral. One reason to expect this was softening headline CPI inflation. Further, there is an expectation that the trend setter, the US Federal Reserve, may also be reaching an end of its tightening cycle. Nevertheless, those hopes were dashed. RBI said that it remains focused on the withdrawal of accommodation stance to ensure inflation remains within the target range. The central bank’s worry is that while headline CPI softened, driven by a strong decline in the prices of vegetables, core inflation remains sticky. Point taken.

“What is also fairly clear about these core measures of inflation, is that, unlike some western economies, the core inflation rates can deviate from headline inflation for considerable periods of time,” said Robert Carnell, regional head of research for Asia-Pacific at ING.

“So, we can’t take too much solace in the fact that headline inflation rates will likely continue to fall, as it could be a long time before core rates move down and into line with them,” he said.

Note that the inflation estimate for FY23 has been revised lower to 6.5% from 6.7% earlier. For FY24, the CPI inflation is pegged at 5.3% assuming that the monsoon will be normal. The inflation battle is still underway, considering that RBI does not see inflation cooling below the 4% mark soon, but India’s growth prospects seem to be encouraging. RBI projected India’s real gross domestic product growth for FY24 at 6.4%. A relatively robust economic growth outlook leaves the door open for policy flexibility, and to raise interest rates further, if required.

Against this backdrop, the moot question is whether this is the end of the interest rate hike cycle for India. The answer to this is not simple. Since RBI did not change its stance, there is room for another hike. That said, with inflation expected to inch lower, the probability of further tightening may be low.

“There’s clearly a possibility of another 25bps hike in April; lots will hinge on the inflation data for January and February,” said Shilan Shah, senior India economist at Capital Economics in a note.

“But the softer growth outlook and the likelihood that inflation remains within the target mean we are maintaining our view that the hiking cycle is at the end,” he added.

Meanwhile, a repo rate hike would have repercussions on the banking sector, as the rising cost of funds is likely to weigh on lenders’ net interest margin.

“NIMs are likely to expand initially before normalising. This is because most loans are either MCLR or EBLR, so lending rates will get repriced quicker than deposit rates as nearly 80% of deposits are term-deposits with an average maturity period of 18 months,” said Sujan Hajra, chief economist and executive director, Anand Rathi Shares and Stock Brokers.