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Reserve Bank of India (RBI) governor, Raghuram Rajan will announce the bi-monthly monetary policy of the central bank later in the day. Rajan is unveiling the policy in the backdrop of falling retail inflation and the slow economic recovery. Most economists expect Rajan to cut repo rate, the rate at which it lends short-term funds to banks, by a quarter percentage point, if not by a bigger margin. Here are the scenarios that could possibly come out of the meeting. A 25 basis points cut in repo rate: [caption id=“attachment_2274390” align=“alignleft” width=“380”]  PTI image[/caption] Repo rate is the policy signaling rate of the RBI. Theoretically, a cut in repo should translate into reduction in bank lending rates. But such a transmission is unlikely to happen with a quarter percentage point cut in the current scenario since most banks have just cut their lending rates. Also, since the banking system is currently not in a deficit mode, banks are not in an urgent need to rush to the repo window and borrow money. So far this fiscal year, banks have borrowed only Rs 2,355 crore on an average, per day, from the RBI compared with Rs 6,703 crore in the previous fiscal year. However, a repo cut would ease sentiments in the financial markets. If the language in the monetary policy is dovish, this can spur hopes of further monetary easing. At presently repo rate is pegged at 7.5 per cent. A cut in CRR A reduction in the cash reserve ratio (CRR) or the portion of deposits banks need to park with the central bank on a fortnightly basis and upon which they earn zero interest, could be more useful for banks to pass on the benefit to the borrower’s kitty. A 50 basis points cut in CRR would release approximately Rs 45,000 in the banking system. Banks can use this money to lend to productive sectors in case of a demand revival. CRR is currently at 4 per cent. Status-quo A status-quo in the repo rate and other key reserve ratios would mean the continuation of the prevailing situation. Logically, banks wouldn’t go for further cut in rates and the mood in financial markets, which were expecting a rate cut, will be that of disappointment. However, this is likely only if the central chooses to wait for the unfolding monsoon scenario.
Live: Sensex tanks 350 pts post RBI rate but, Rajan still worried about these 3 factors
We track the latest developments at the RBI policy meet today.
 "Live: Sensex tanks 350 pts post RBI rate but, Rajan still worried about these 3 factors")
Sensex down 400 points as RBI cuts rates by just 25 basis points
Sensex tanked 400 points today as the Reserve Bank of India governor Raghuram Rajan widely disappointed markets and analysts by cutting repo rate by just 25 basis points to 7.25%. Clearly investors are not happy with Rajan’s cautious stance on further easing.
So why did the RBI cut repo rate by just 25 basis points? Rajan sees three risk scenarios that could cloud the picture:
First, some forecasters, notably the IMD, predict a below-normal southwest monsoon. Astute food management is needed to mitigate possible inflationary effects.
crude prices have been firming amidst considerable volatility, and geo-political risks are ever present.
Third, volatility in the external environment could impact inflation.
Rajan says a conservative strategy would be to wait, especially for more certainty on both the monsoon outturn as well as the effects of government responses if it turns out to be weak. “With still weak investment and the need to reduce supply constraints over the medium term to stay on the proposed disinflationary path (to 4 per cent in early 2018), however, a more appropriate stance is to front-load a rate cut today and then wait for data that clarify uncertainty.
At 11:56 am, the Sensex was down 354 points at 27494, while the Nifty was down 107 points at 8327.
Given Rajan’s conservative approach, economists do not expect another rate cut till December 2015. Little wonder that the markets are tumbling despite today’s rate cut.While the cut was factored in by the markets but the central bank’s cautious stance on further easing is hurting sentiment
“The RBI delivered as per market expectations by cutting the repo rate by 25 bps and bringing the rate easing cycle to a pause for the time being. The central bank has advised caution while outlining the three major risks to inflation in the form of sub-par monsoons, oil prices moving up and a volatile external environment that are likely to guide on the quantum of rate cuts in the future. Importantly, the RBI now sees upside risks to its January forecast of 6% inflation and ha also brought down its growth estimate. This shows that the RBI expects a gradual recovery, which would in part be dependent on how the monsoons pan out. Overall, we see this as a prudent monetary policy with future easing contingent on how the data shapes up,” says Anis Chakravarty, Senior Director, Deloitte in India.
Why did the RBI cut rate if there is a fear of inflation rising? If we did not cut the interest rate, we are going to have a fight with the government, Rajan said in a lighter vein. The audience lughed but the nagging doubt remains: Is he saying the truth through humour?
One cannot be sure because he quickly added that waiting (to cut rates) would also be a conservative strategy now. He said the central bank is using the available elbow room now.
The governor also seemed to be sending a message to finance minister Arun Jaitley, when he warned that banks may not be able to fund economic growth given paucity of capital.
The government has been reluctant in recapitalising public sector banks, with earmarking just about Rs 7,940 crore, nearly half the their requirement.
Meanwhile, the repo rate cut failed to cheer market as the Sensex declined a further 267 pointsto 27,581.58 from its previous close.
Rate sensitive shares continued to trade in negative territory, with SBI witnessing a steep fall of 1.7 percent at Rs 273. While HDFC Bank lost 1 percent to Rs 1,026 and Axis Bank fell 0.9 percent at Rs 573.
RBI said global currency markets continue to be dominated by strength of US dollar and that the global economic recovery has been slow.
It said headline inflation has evolved along projected path. Timing of the US Fed rate hike seems to have been pushed back.
CNBC-TV18 Poll RBI Credit Policy Poll: 70% Bankers See 25 bps Rate Cut & 30% Expect No Rate Action
— CNBC-TV18 (@CNBCTV18Live) June 2, 2015
CNBC-TV18 Poll RBI Credit Policy Poll: 20% Expect RBI To Forecast FY16 CPI Infln At 5.5-5.7%, 10% See At 5-5.5%
— CNBC-TV18 (@CNBCTV18Live) June 2, 2015
Markets down ahead of RBI policy
Stock markets took a beating in early trade Tuesday as the benchmark Sensex plunged more than 200 points amid weakness in rate sensitive stocks.
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