Repo rates and reverse repo rates have been reduced by 0.25%.
A Repo rate is the rate at which the RBI lends money to commercial banks. The Reverse repo rate is a rate at which RBI borrows money from other banks.
This was the first MPC announcement made after Shaktikanta Das replaced Urjit Patel as the RBI governor. Patel resigned in December 2018 citing personal reasons. During the December MPC review, interest rates remained unchanged, but the central-bank promised to cut rates if it observed upside risks to inflation not materialising.
The announcement on Thursday was the first time that a rate cut was announced since August 2017. The MPC announcement was made before noon, a major change considering such policy announcements have been usually made post 2:00 PM.
For the common man, the RBI's announcement means that loans will become cheaper. That, if banks agree to pass-on benefits to their customers. For deposit holders, however, this announcement means that the interest component would be a bit lesser. This could impact the interests of many pensioners, and deposit holders.
The RBI said that the decision to change the monetary policy stance was unanimous. The reduction in the policy repo rate however was voted 4:2. by the six-member team. Dr. Ravindra H. Dholakia, Dr. Pami Dua, Dr. Michael Debabrata Patra and Shaktikanta Das voted in favour of the decision.
Dr. Chetan Ghate and Dr. Viral V. Acharya voted to keep the policy rate unchanged.
To summarize, the RBI said that the MPC is committed to achieving medium-term target for headline inflation of 4 per cent on a durable basis.
"These decisions are 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," said the RBI.
Stance, Key Observations & Outlook:
In its assessment document, the RBI's MPC states that it has changed its monetary policy stance from calibrated tightening to neutral. Stance is the economic perspective or view of the Central Bank. Calibrated tightening refers to a situation wherein the RBI could increase interest rates proportionate with economic situations. Calibrated tightening can be referred as almost in sync with a hawkish stance.
The neutral stance assures that the RBI perceives the economy in a stable situation and does not see many uncertainties in the coming days. The RBI in its document has offered 19 statements in its assessment and 7 pointers that reasons why it changed its stance. Here is a look at some of the important observations:
1. Global Economic activity: The RBI MPC admits that there is a slowdown in global economy. It refers to deceleration in China, slowdown in Japan, and Crude-oil dip impacting Russian economy. It says that the Economic growth in South Africa made mild recoveries. The assessment also says that crude prices recovered in January from the lows recorded during December 2018. It also reports of a selling pressure on Base metals owing to US-China trade frictions. The report says that Gold prices have increased. This, the bank attributes to an increase in safe haven demand. The RBI note also reports of a selling spree in US equities in December as moderating. It also records that there is selling pressure on the US Dollar, although it had diminished owing to expectations on easing of trade-tensions.
2. Situation of Domestic Agriculture: Rabi sowing so far (up to February 1, 2019) has been lower than in the previous year, but the overall shortfall of 4% across various crops is expected to catch up as the season comes to a close. The lower rabi sowing reflects a deficient north-east monsoon (44% below the long period average); however, storage in major reservoirs – the main source of irrigation during the rabi season – at 44% of the full reservoir level (as on January 31, 2019) was marginally higher than in the previous year. The extended period of cold weather in this year’s winter is likely to boost wheat yields, which would partly offset the shortfall, if any, in area sown.
3. Inflation Statistics and Projections:
The central bank said that the retail inflation declined from 3.4% in Oct 2018 to 2.2% in December (lowest in previous 18 months).
Food inflation: Five constituents of the food group – vegetables, sugar, pulses, eggs and fruits, accounting for about 30 per cent of food group – were in deflation in December. Inflation in respect of other major food sub-groups – cereals, milk, and oils and fats – was subdued. Within cereals, rice prices declined for the fourth consecutive month in December. Inflation in prices of meat and fish and non-alcoholic beverages showed an uptick, while it remained sticky for prepared meals.
Inflation in the fuel and light group fell from 8.5% in October to 4.5% in December, pulled down by a sharp decline in the prices of liquefied petroleum gas (LPG), reflecting softening of international petroleum product prices.
CPI inflation excluding food and fuel decelerated to 5.6% in December from 6.2% in October, dragged down mainly by the moderation in the prices of petrol and diesel in line with the decline in international petroleum product prices.
4. Other Economic Indicators:
The RBI also assessed sale of passenger cars (indicator of urban demand) as contracting, telephone subscriber base contracting, and broadband base increasing in October.
The year-on-year (y-o-y) growth in core industries decelerated to 2.6 per cent (y-o-y) in December, pulled down by a slowdown in the production of electricity and coal; and contraction in petroleum refinery products, crude oil and fertilisers output. Capacity utilisation (CU) in the manufacturing sector, as measured by the Reserve Bank’s order books, inventory and capacity utilisation survey (OBICUS), increased to 74.8 per cent in Q2 from 73.8 per cent in Q1; seasonally adjusted CU also improved to 75.3 per cent from 74.9 per cent. While the Reserve Bank’s business assessment index of the industrial outlook survey (IOS) for Q3:2018-19 suggests a weakening of demand conditions in the manufacturing sector, the business expectations index (BEI) points to an improvement in Q4.
5. Export Growth:
The RBI statement says, "Export growth on a y-o-y basis was almost flat in November and December 2018, primarily due to a high base effect and weak global demand. While growth in exports of petroleum products remained positive, non-oil exports declined, dragged down by lower shipments of gems and jewellery, engineering goods, meat and poultry. Import growth slowed in November and turned negative in December 2018. While imports of petroleum (crude and products) rose in line with the increase in import volumes, non-oil imports such as pearls and precious stones, gold, electronic goods and transport equipment, recorded declines. The merchandise trade deficit for April-December 2018 was a shade higher than its level a year ago. Net services exports picked up in October and November 2018, which combined with low oil prices, could have a salutary impact on the current account deficit in Q3. On the financing side, net FDI flows to India during April-November 2018 were higher than a year ago. Foreign portfolio flows turned negative in January 2019, after rebounding in November and December 2018. India’s foreign exchange reserves were at US$ 400.2 billion on February 1, 2019."
The RBI has shared the GDP estimaes from the CSO office. GDP in December was projected at 7.4% and for the first half of 2019-2020 it is at 7.5%. The RBI is confident that the risks to achieving growth have downsided. It says that the headline inflation would remain soft in the near term.
In its outlook section, the RBI talks of seven points as uncertainties that warrant careful monitoring. These are:
1. Vegetable prices have been volatile in the recent period; reversal in vegetable prices could impart upside risk to the food inflation trajectory.
2. The oil price outlook continues to be hazy.
3. A further heightening of trade tensions and geo-political uncertainties could also weigh on global growth prospects, dampening global demand and softening global commodity prices, especially oil prices.
4. The unusual spike in the prices of health and education needs to be closely watched.
5. financial markets remain volatile.
6. The monsoon outcome is assumed to be normal; any spatial or temporal variation in rainfall may alter the food inflation outlook.
7. Several proposals in the union budget for 2019-20 are likely to boost aggregate demand by raising disposable incomes, but the full effect of some of the measures is likely to materialise over a period of time.
Domestic markets closed on a negative note post the announcement. Thirty scrip sensitive BSE Sensex closed at 36,971, 4 points lower. The NSE Nifty recorded a 6 point gain to close at 11,069.40.
Here are some reactions and opinions post the RBI announcement:
RBI’s decision to reduce the repo rate by 25 basis point from 6.5% to 6.25% and change of stance to ‘Neutral’ will give a boost to the economy, lead to affordable credit for small businesses, homebuyers etc. and further boost employment opportunities— Piyush Goyal (@PiyushGoyal) February 7, 2019
Glad to see RBI cutting the Repo Rate by 0.25% This will provide a very timely impetus to private investment and improve investor sentiment.— Rajiv Kumar (@RajivKumar1) February 7, 2019
???? #INDIA CENTRAL BANK (RBI) CUTS REPURCHASE RATE BY 25BPS TO 6.25%; NOT EXPECTED— Christophe Barraud (@C_Barraud) February 7, 2019
- Cuts Reverse Repo Rate from 6.25% to 6.00%
*INDIA'S S&P BSE BANKEX GAUGE EXTENDS GAINS AFTER RBI CUTS RATE
*INDIA RUPEE FALLS 0.2% TO 71.71/USD AFTER RBI RATE CUT
4/ The @RBI Gov has also turned his attention to liberalization and reform. I expect him to return to a more open participatory approach involving inputs from outside experts to push development of financial markets— Dr Arvind Virmani (@dravirmani) February 7, 2019
Opinions & Thoughts:
A relief on the cost of funds is awaited eagerly by the SMEs as it helps them with reduced borrowing cost and offers much needed impetus, thereby improving their financial health. RBI’s current rate cut is indicating that in the next fiscal, if the inflation remains below 3% and oil prices remain stable, we expect rates to further reduce by ~25 bps."
RBI has been continuously monitoring the liquidity situation and infusing liquidity as per requirement post the liquidity crunch arising from the DHFL/IL&FS crisis. OMO (Open market operations) has been the preferred liquidity tool in the current scenario and instead of pre-judging the liquidity required, RBI is expected to continue ensuring there is no scarcity arising in the system."
Additionally we also welcome the relaxation in FPI limits investing in corporate bonds and feel that this is the right step towards deepen the Indian debt markets."
The RBI has also introduced some welcome regulatory changes. The list includes withdrawal of concentration limits in corporate bonds that will promote participation of Foreign Portfolio Investors, rationalization of interest rate derivatives guidelines which will boost depth and liquidity of derivative markets, and the task force on offshore rupee markets that will foster greater participation in Indian assets. The change in risk-weighting of rated exposure to NBFCs, will help strong NBFCs to get credit thereby easing some of the strain being felt currently."
Rate cuts give a substantial push to property buyer sentiments, and it was certainly high time for such a cut. Home loan interest rates increased by as much as 5-7% in the last one year because the RBI hiked its repo rates by 50 basis points over the same period. In other words, home loans had become a more expensive proposition.
However, the real estate market does not depend only on marginally improved buyer sentiment - there are larger issues that hold the sector hostage right now. The liquidity issues post the NBFC crisis are a bigger concern. NBFCs and HFCs have seriously curtailed disbursements to developers. Moreover, the repayment capabilities of many developers are also in question.
Furthermore, though the account deficit (CAD) widened to 2.9% in December, inflation targets are more or less within control and the GDP is estimated to grow at a very healthy 7.5 % in the new fiscal. Going by these indicators, the Indian economy is looking at a good financial year ahead - always assuming that a stable government is voted to power in the upcoming general elections."
"The RBI’s decision to cut its key rate and shift its stance to neutral from calibrated tightening puts to rest its hawkish bias. This change in policy course -- which we had expected-- points to a data-dependent policy going forward.
Thursday’s review -- the first with Governor Shaktikanta Das at the helm -- restores growth maximization as a secondary objective of the RBI. It also signals a commitment to a symmetric policy to achieve its 4% inflation target -- a departure from the RBI’s previous one-sided, conservative stance that aimed to keep inflation below the target. In our view, Das is charting a course demanded by the RBI’s mandate of price stability and growth maximization, not buckling under political pressure to rev up the economy ahead of this year’s election.
We expect the 25 basis point cut in the policy repo rate to stop an upward trend in deposit and lending rates, and allow structural reforms to support a slow, steady recovery in the economy. Inflation is likely to pick up gradually toward the 4% target. Our base-case expectation is that the RBI will now keep rates on hold until end-2019. That said, should lower oil prices counter the pickup in inflation, room for further rate cuts could open up ahead."
The next meeting of the MPC is scheduled from April 2 to 4, 2019. Click here to read RBI's detailed press release.