RBI likely to cut repo by 25 bps

The Reserve Bank of India is widely expected to cut the key policy repo rate by at least 25 basis points on Friday, overlooking inflation concerns as the economic growth has been declining at a faster rate and industry, which includes manufacturing, is closer to slipping into recession.

A sharp decline in nominal GDP growth at 6% has almost ensured a rate cut because, among other things, it also indicates that the government does not have more fiscal firepower to fight the current slowdown. The fall in nominal GDP, which includes inflation, has shrunk the size of GDP much lower than Rs 211 lakh crore projected in the Union Budget, automatically overshooting the fiscal deficit. The reforms and tax cuts, undertaken in the recent month, will take time to show results.

Most economists, polled by DH, have voted for a 25 basis point rate cut. But, this time around it will be important to see how sharply the RBI cuts its growth forecast for 2019-20 when it announces the policy.

The lead indicators have been showing the economic growth has been overestimated by at least one percentage point. The RBI had, in October, slashed its forecast to 6.1% from 6.9%.

The RBI may also increase its inflation forecast to above 4% in the medium term in the wake of food prices remaining high and the recent telecom tariff hike posing an upside risk to inflation in the coming months.

In October, retail inflation has reached above 4.62%

“Even as the October retail inflation at 4.62% breached the RBI’s medium-term target of 4%, I believe that the Q2FY20 GDP growth at a six-year low at 4.5% and the Sept IIP hitting an almost eight-year low with growth at (-) 4.3%, will nudge the RBI to cut the key policy rate by up to 25 basis points,” Shanti Ekambaram, President, Consumer Banking, Kotak Mahindra Bank said. .

The factory output shrank by 4.3% in September due to contraction in core sectors like manufacturing, mining, and electricity.

The latest GDP has thrown up a major negative, which the central bank cannot ignore while deciding on rates, is that the entire growth in the July-September quarter has been driven by government spending.

In order to push the private sector to invest more, the RBI will have to go in for a rate cut, it's sixth consecutive since the start of the calendar year. Though the transmission of the rate cut by the banks, has remained a problem, economists say that the external benchmarking of October repo cut will have its impact in January.

“I do expect that the Government will step up spending in key areas such as infrastructure to give a boost to the economy. This is likely to pose a challenge to the budgeted fiscal deficit number of 3.3%. However, the need of the hour is for fiscal and monetary policies to work in tandem with each other to boost economic growth and consumption,” Ekambaram said.

A small group of economists also suggest that the RBI should start using other ammunition in its armory as five rate cuts have not helped curb the economy from sliding.