FM & RBI now seen together to revive growth; markets suspect!
It is tough call for RBI to prefer growth ahead of inflation when strong inflationary pressures have emerged from fuel price hike, uptrend in commodity prices, widening current account deficit and bearish undertone on rupee exchange rate. Yes, there is need to resist (and dilute) the strength of the headwinds to growth through moderate (if not dovish) monetary policy with the need to be seen together with the Government and not letting them walk alone; this is the message RBI had chosen to convey in its January 2013 quarterly policy review. RBI chose to deliver to the gallery (that includes the Finance Ministry) on policy rates and topped it up with pleasant surprise by 25 bps reduction in CRR to pull Banks into rate cut mode!
The significant take-away for the way forward are the following: (a) sharp downward revision in FY13 WPI inflation target to 6.8% (from current 7.5%); (b) moderate downward revision in FY13 GDP growth target to 5.5% (from current 5.8%); (c) signal of availability of limited band-width in monetary policy to support growth and (d) injection of liquidity through CRR cut (and not with OMOs) to resist run-away gains in the Bond market. RBI has also stressed the need to push headline WPI inflation into its comfort zone of 4.0-4.5%. Now that the “bar” on inflation is raised to 6.8% for FY13 (and into 4.0-4.5% in due course), aggressive rate cuts may not be on cards. RBI may choose to retain LAF corridor at 6.50-7.50% with another round of 25 bps cut in March or April 2013 and await dilution in impact on inflation from twin deficits. RBI will now expect Banks to cut the Base Rate (and BPLR); the need arises from delivery of unexpected CRR cut when deposit rates are unlikely to fall till end of March 2013 in the 3-12M tenor despite rate cut. Banks may need to front-load rate cut actions in anticipation of significant downtrend in deposit rates from April 2013 along with another round of 25 bps cut in April 2013.
The asset markets will be back into consolidation mode with focus on Budget FY14 and look for triggers from there for RBI’s policy stance in the mid quarter review in March. 10Y bond yield has now strong resistance at 7.80% while weakness into 7.90-7.95% on pipe-line supplies and absence of OMO purchases will set up good investment opportunity. NIFTY should extend its gains into 6180 with strong base at 6030-6080 support zone. Rupee is now off from the risk of extended weakness into 53.95-54.10 while preparing for gradual appreciation into 53.10-53.35 resistance zone. Over all, it is “feel-good” monetary policy to asset markets and stake holders with great relief to the Government to get RBI’s support to add momentum to their aggressive stance on reforms and fiscal consolidation. The intent provides comfort and confidence while impact on twin deficits is uncertain and suspect!
Moses Harding
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