RBI likely to hold rates on April 7 amid Covid-19 surge

The six-member monetary policy committee (MPC) of the Reserve Bank of India (RBI) is likely to hold interest rates amid the possible second wave of Covid-19 infections in its first bi-monthly monetary policy review of the current financial year which will be announced on Wednesday, economists and market participants said.

The central bank has reduced the policy rate or the repo rate by 115 bps in March and May last year in response to the nationwide lockdown imposed to curb the spread of infections. Since May, the repo rate has remained unchanged at 4%.

“We expect RBI to keep rates on hold and maintain its accommodative stance at the upcoming meeting, as indicated by the MPC [Monetary Policy Committee] in the previous policy statement,” Morgan Stanley said in a note to its clients.

“Growth indicators have continued to improve since the last meeting, although the recent resurgence in daily Covid-19 cases poses risks to the growth outlook,” the note said.

Read more: Reserve Bank of India may not cut key rates in monetary policy review

Economists agree that the central bank has to take into account the recent surge in the Covid-19 cases – as the pandemic situation has changed completely since the last policy review in February when day infections were falling.

“In the first policy review for FY22, the Reserve Bank of India monetary policy committee (MPC) is expected to keep benchmark rates unchanged on April 7, accompanied by an accommodative bias. Developments since the February review – sticky inflation and an increase in the Covid-19 cases – are likely to influence the policy guidance,” said Radhika Rao, economist at DBS Bank Ltd.

“…after close to six months of a receding case count, India is witnessing a rise in the Covid-19 cases back to 70k+ cases per day, along with higher positivity rate,” Rao added.

The April policy is also the first policy review after the government retained the inflation target of 2-6% for the next five years, until the fiscal year 2025-26.

“The upcoming policy is against a backdrop of nascent recovery and fears of our country seeing resurgence of the pandemic. The MPC members, yet another time, will have to do the tight rope walk in such a scenario, being mindful of stretching the elastic too wide,” said Lakshmi Iyer, CIO (Debt) & Head Products, Kotak Mutual Fund.

“We are therefore of the view that the case for status quo and extended pause remains. The last thing the central banker would want to do is tweak policy amid uncertainty. The case for maintaining adequate liquidity and gradual normalising over time remains,” Iyer said.

The policy priority of the central bank has been to support growth despite inflation staying above its target band of the previous financial year. The finance ministry’s economic survey had projected GDP growth to contract by 7.7% in the previous financial year and to grow by 11% in the current one. RBI projects real GDP growth at 10.5% in 2021-22 – in the range of 26.2 to 8.3% in H1 and 6.0% in Q3.

“Despite inflation averaging 6.2% in the current financial year, RBI has maintained ample liquidity and reduced repo rates. This is in sync with RBI’s lexicographic preference of growth over inflation,” said Sameer Narang, chief economist, Bank of Baroda.

“After a dismal FY21, growth is expected to increase to 11.5% in FY22. This gives RBI room to gradually reduce liquidity surplus. However, it doesn’t mean any change in accommodative stance. RBI will maintain its forward guidance on stance for this year as well along with open market operations,” Narang told DH.

In the February policy, the central bank had projected consumer price index-based inflation at 5.2% to 5.0% for the first half of the current financial year and 4.3% in the third quarter, with risks broadly balanced.

Experts believe that inflation trajectory will be lower in the current financial year (though core inflation may remain elevated) which could allow the central bank more time to adjust its monetary policy – the stance of which remained extremely accommodative.

“Lower inflation in FY22 will also give RBI time to give time to adjust monetary policy over this financial year. Food inflation is likely to come down in FY22 from a high of 8% in FY21 (Apr-Feb). Both vegetables and cereals will drive food inflation lower,” Narang said.

“However, core inflation remains elevated at 6% in Feb’21 (5.6% in FY21). Notably, core inflation is unlikely to come down due to high oil prices and gradual normalising of services economy. Thus inflation at 4.5% in FY22 will be higher than RBI’s target of 4%. As a first step to normalisation of monetary policy, RBI may look at raising the reverse repo rate later in the year,” he added.

The reverse repo rate which is at 3.35%, is 65 bps lower than the repo rate. Eventually, the central bank may look to narrow the gap of the policy corridor at normal levels, to 25 bps.

(The writer is a Mumbai-based senior journalist)