Raghuram Rajan RBI policy today: 3 reasons why he can go for a surprise rate cut - Firstpost

Raghuram Rajan RBI policy today: 3 reasons why he can go for a surprise rate cut

The consensus in the financial markets is that Reserve Bank of India (RBI) governor Raghuram Rajan will keep the key policy rate, repo, unchanged when he announces the bi-monthly policy today. Of the 44 economists polled in a Reuters survey, 43 bet for a status-quo.

The logical reasons for such an assumption are pick-up in the growth as shown by the Gross Domestic Product (GDP) numbers (GDP grew 7.6 percent in the fiscal year 2016 and 7.9 percent in the fourth quarter) and a recent uptick in the retail inflation numbers.

Raghuram Rajan. Reuters

Raghuram Rajan. Reuters

The latest consumer price index (CPI) inflation for April showed a growth of 5.4 percent compared with 4.8 percent in March. Further, the central bank would want to wait to see how monsoon is panning out in the next few months, though forecasts predict an above-normal monsoon. Thus the likelihood is that the RBI will hold its key policy rate at 6.5 percent and may look at rate cuts later this year.

But, Rajan is not averse to gifting surprise rate cuts to the market. If the governor wants to try the surprise element yet again with a 25 bps rate cut, there are a few reasons that will be highlighted to justify the rate action.

One, there is no real pick-up in the growth on the ground yet no matter what the GDP numbers show. The manufacturing sector is still struggling to recover from the dull phase. The Nikkei/Markit India Manufacturing Purchasing Managers' Index (PMI) - a composite indicator of manufacturing sector performance - showed that the manufacturing output in India grew at its slowest pace in five months in May, suggesting that the sector is "barely improving".

The index stood at 50.7 in May as against 50.5 in April - one of its lowest readings since the end of 2013. It’s a reason to worry on growth and cut interest rates. Anything above 50 is a good sign, while a sub-50 number shows contraction.

Two, credit growth for the industry, an important indicator for economic revival, is not picking up anywhere. According to latest RBI data, the credit growth to industry increased by just 0.1 percent in April 2016 compared with the increase of 5.9 percent in the corresponding period last year. If growth has picked up at a faster pace, why it is not reflecting in the industry growth and their funding pattern? That’s another reason for Rajan to cut rates to support growth.

Three, the Centre for Monitoring Indian Economy (CMIE), a trusted name in economic research, has pointed out that Indian economy actually grew by 5.2 percent in the fiscal year ending March 2016 (as against the 7.6 percent showed by the CSO) compared with 7.1 percent in the preceding full fiscal year, if one excludes the ‘discrepancies’ component in the GDP measure.

The larger the “discrepancies,” the more worried one is likely to get about the veracity of production side GDP.

In other words, if the RBI chooses to dismiss the 7.6 percent figure and observes that there are issues on the growth front, it will have reasons to cut the policy rate today. But such an observation from the central bank will be an egg on the face of the government.

The likelihood is a status-quo in the policy rates. But, one shouldn’t be surprised if Rajan chooses to go for a 25 bps surprise rate cut.

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