Is ‘rate hike’ on the table for RBI in FY18's last policy meet?

Even as the Reserve Bank of India (RBI) is set to present India’s last monetary policy for fiscal year FY18 today, analysts have predicted either ‘status quo’ or ‘rate hike’ scenario this time.

RBI kept policy repo rate unchanged at 6% in the past two monetary policy meetings along with accommodative stance due to fear of higher inflation and macro-economic data.

In its December policy, the apex bank highlighted the need to monitor certain variables from the perspective of inflation, which included, rising input cost conditions, pointing towards higher risk of pass-through to inflation; implication of fiscal slippage on inflation; global monetary policy normalization in advanced economies and fiscal expansion in the US carrying risks for inflation amongst others.

The Union Budget 2018 is likely to impact RBI’s outlook.

Anish Damania and Bhawana Chhabra, analysts at IDFC Securities, said, "We think that the Budget is likely inflationary and could lead to some cautious behaviour from the RBI.”

Analysts at Bank of Baroda believe that the RBI will remain in pause mode as it would want to support India's growth, considering the fiscal slippage.

Finance Minister Arun Jaitley had estimated fiscal deficit target at 3.5% of GDP by end of current fiscal, expecting to bring down this target to 3.3% in the next fiscal (FY19).

For nine months of Financial Year 2018, India's fiscal deficit stands at Rs 6,20,949 crore, overshooting the budgeted estimate (BE) target by 113.6%.

The government has estimated Rs 5,46,532 crore of fiscal deficit for FY18 which during the same period of the last year stood negative at 93.9%.

Apart from this, BoB also highlights that rising international fuel prices remain a key risk to our forecasts as higher crude prices may force the RBI to raise rates earlier than expected.

Bank of Baroda analysts are not alone in forecasting rise in repo rate, global investment bankers like Morgan Stanley and Goldman Sachs had earlier expressed that RBI should start raising key policy rates.

The global investors said, “We expect CPI inflation to rise above the midpoint of RBI’s target band (to 5.3% in FY19) due to a pickup in food and commodity prices, and expect the RBI to hike policy rates by 75 basis points by mid-2019 ”

Kapil Gupta, Prateek Parekh and Akshay Gattani, analysts at Edelweiss Financial Services, explain that the FM in his Budget speech promised farmers MSP of 1.5x cost of production - which could possibly imply 10% plus increase in MSP for paddy in ensuing kharif season.

The trio said, “All this, along with rise in crude oil prices, could put upward pressure on inflation, although cut is GST rates in November and easing of vegetable prices should offset some of the potential rise.”

On balance, the trio added, “We expect the central bank to express some concern on rising inflation. In addition, it may cite burgeoning risk of fiscal slippage as an added reason to be cautious.”

Comparing the rate decision of other countries central bank, as per Edelweiss, the US Federal Reserve has already been on path of raising interest rates and shrinking its balance sheet, ECB too seems to turning less accommodative, embarking on a tapering programme and stating that Euro area growth remains strong.

As the global interest rates have risen, all eyes would be on RBI whether it follows the same route or retains status quo once again.

RBI is an inflation trajectory central bank, and policy rate decision are usually depended on the performance of Consumer Price Index (CPI).

Consumer Price Index (CPI) inflation has already reached to 17-month high of 5.21% in December 2017, primarily driven by vegetables, house rent and fuel.

source: tradingeconomics.com

As per RBI committee, first, moderation in inflation excluding food and fuel observed in Q1 of 2017-18 has, by and large, reversed. There is a risk that this upward trajectory may continue in the near-term.

Secondly, the impact of HRA by the Central government is expected to peak in December. The staggered impact of HRA increases by various state governments may push up housing inflation further in 2018, with attendant second order effects.

Thirdly the RBI also added, the recent rise in international crude oil prices may sustain, especially on account of the OPEC’s decision to maintain production cuts through next year. In such a scenario, any adverse supply shock due to geo-political developments could push up prices even further.

It added, "despite recent increase in prices of vegetables, some seasonal moderation is expected in near months as winter arrivals kick in. Prices of pulses have continued to show a downward bias."

Care Ratings on February policy says, " Further, the CPI inflation number came in at all year-high which buttressed the feeling that there could be a rate hike instead of a rate cut during calendar 2018."

It may be noted that ‘rate cut’ dilemma is not on cards for RBI.

The duo at IDFC said, “Even though gross borrowings for FY19BE are lower than market expectations, T-bill issuance has been taken at a high level for FY18E. This implies supply fears in the market. Further, our expectation of a retail inflation is unlikely to be conducive for any rate cut from the RBI.”

India is just few hours away in knowing what decision RBI takes in regards to policy repo rate.