Given the MPC’s CPI inflation projections for Q1 FY2025 and the derived forward looking real policy rate, ICRA maintains its expectations of an extended pause until the beginning of a shallow rate cut cycle of ~50-75 bps in August 2024.
– By Aditi Nayar
The Monetary Policy Committee (MPC) expectedly paused unanimously on the policy rate and maintained its stance with a vote of 5:1 once again, in its fourth bi-monthly monetary policy meeting for FY2024. In our view, further monetary tightening is not warranted in the near term, amid the continued lagged transmission of past rate hikes through the economy. Given the MPC’s CPI inflation projections for Q1 FY2025 and the derived forward looking real policy rate, we maintain our expectations of an extended pause until the beginning of a shallow rate cut cycle of ~50-75 bps in August 2024.
Moreover, as we had anticipated, the statements of the MPC and the RBI Governor maintained a pervasively hawkish tone, reiterating the overarching focus on bringing down inflation to the 4.0 per cent medium term target.
The Committee highlighted risks from recurring incidences of food price shocks that could result in generalisation of such pressures and the need for monetary policy to remain ‘actively disinflationary’. The RBI Governor also stressed that ‘the inflation target is 4 per cent and not 2-6 per cent, while emphasising the need to align with this on a durable basis.
Although the MPC clearly spelled out the risks to the inflation trajectory on account of lower kharif sowing of pulses, dip in reservoir levels, El Nino conditions and volatility in global food and energy prices, it left its CPI inflation forecast for FY2024 unchanged at 5.4 per cent. However, it did tweak the quarterly CPI projections slightly, raising the Q2 FY2024 number by 20 bps to 6.4 per cent, which was partly offset by a cut in its Q3 projection by 10 bps to 5.6. It maintained the Q4 FY2024 and Q1 FY2025 projection at 5.2 per cent each.
These projections are broadly in line with our own estimates, notwithstanding marginal differences in the quarterly prints for Q2 and Q3 FY2024. The Committee maintained its FY2024 growth projection at 6.5 per cent, while keeping the quarterly prints unchanged. Consequently, it expects growth to slow from 7.8 per cent in Q1 to 6.5 per cent in Q2 and thereafter to 5.7-6.0 per cent in H2 FY2024, before inching up to 6.6 per cent in Q1 FY2025, in line with the August 2023 policy meeting.
Based on the available high frequency indicators for Q2 FY2024, we believe that the growth outcome for Q2 FY2024 may exceed the MPC’s 6.5 per cent projection. However, we fear a sharper slowdown in the pace of GDP growth in H2 FY2024 to 4.5-5.0 per cent. This stems from headwinds such as the impact of sub-par monsoons on agriculture output and the rural economy, lagged effects of monetary tightening, narrowing differentials in commodity prices with year-ago levels, continued weakness in external demand and a potential slowdown in the Government’s capital spending ahead of the 2024 General Elections.
The RBI Governor’s comments around the expected easing of liquidity following the release of funds impounded under the I-CRR are in line with our expectations. However, the commentary around the need to consider open market operations (OMO) sales to manage liquidity was quite surprising, which led to a surge in the 10-year G-sec yield to 7.36 per cent intraday from the previous day’s close of 7.2 per cent.
Amid the increased currency demand during the festive season, liquidity conditions are set to tighten in H2 FY2024 vis-à-vis H1, which saw the Rs 2000 note withdrawal. This would not warrant significant OMO sales in the immediate term. However, the RBI could resort to sustained OMO sales, if the country is to witness large capital inflows towards the end of the fiscal, ahead of the bond index inclusion. With limited fiscal risks at this juncture, we anticipate that the 10-year G-sec yield will range between 7.2-7.35 per cent in the ongoing quarter.
(Aditi Nayar is the Chief Economist, Head- Research & Outreach at ICRA.)
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Source:financialexpress.com