RBI likely to keep the policy rates unchanged in August, says HDFC Bank's economist

Last Updated: Sat, Jul 28, 2018 12:46 hrs
A man checks his phone outside the Reserve Bank of India (RBI) headquarters in Mumbai

The last week may have seen the Sensex soaring to a record high, and a moderate ease in Rupee's depreciation. The Rupee in fact appreciated on Friday moderately offering some cheer for investors.

Calls of a rate hike have been explored by speculators after the Rupee crashed by nearly 8% in the year upto the start of the previous week. A systemic rise in crude prices, followed by US economy posting jobs growth and the Federal reserve's hints of another rate hike have been reasons attributed to the crash.

Abheek Barua, HDFC Bank's Chief Economist however explains in a note that the central bank may keep the policy rates unchanged. The RBI Monetary Policy Committee is expected to announce lending rates on Wednesday, August 1.

"It's a close call and a tough balancing act but we expect the RBI to tilt in favour of a 'hold' when it meets next week for the monetary policy review," said Barua.

"The inflationary risks are still there but the rise in food prices (in June and July) has been much lower than the historical trend and this sort of subpar food inflation could be underlined as an offsetting factor against the MSP (Minimum Support Price) risk and elevated core inflation," he added.

"Stabilization in the INR in the recent weeks and moderation in oil prices could also be pointed out by the RBI as somewhat comforting," Barua explained further.

In a note shared with Sify.com the Chief Economist reasons several reasons. Some of them in bullets are as follows:

  • On account of seasonal factors, food prices generally go up by 2% month on month during June and July. However, this time around, the rise has been 1%. We expect this sort of subpar trend to persist until mid August, after which the MSP related impact is likely to kick-in. We expect headline inflation to decline from 5.0% in June to 4.4% in July.
  • Net liquidity position in the banking system has moved from a modest surplus of Rs. 85 bn in May and June (average) to a modest deficit of Rs. 60 bn in July. In the MPC statement, while there might not be categorical mention of the liquidity infusion, an indirect reference could be made.
  • Rupee dynamics and external environment: On the exchange rate front, depreciation of the INR and the risk of imported inflation is an important factor to consider for the MPC. So far, the INR has depreciated and has been an underperformer in Asia. While the risk is high on account of trade-war talks, the rupee has shown signs of consolidation in recent days.
  • Portfolio flows into Indian markets (equity and debt) have shown some stability in the recent weeks. After witnessing outflows to the tune of USD 3bn (on average) in the last three months (April, May and June), the trend in July has been somewhat placid – with just 0.1bn flowing out of equity and debt market in total.

He also elucidates on the trade war issue, suggesting that the recent agreement between Europe and the US to move toward a "zero tariff" situation was a sign of relief. "No doubt that the negotiation between the two parties have just started and it would take some time for final settlement but the agreement will prevent any further tariffs while the talks are under way and should be comforting for global markets, with some easing of the exchange rate risks for emerging markets," read Barua's note.

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