Inflation worries: RBI not to tinker with policy rates over the next 18 months

The Reserve Bank of India is expected to keep interest rates steady well into next year after it shifted to a neutral monetary policy stance in February, and despite having raised concerns over a potential spike in inflation, a Reuters poll found. Earlier this month, the Reserve Bank of India raised a secondary rate while holding the key repo rate steady to mop up excess liquidity from the government’s demonetisation drive, making it the fourth meeting in a row it has surprised markets. The median consensus in the poll of more than 35 economists, conducted between 10-19 April, was for the policy repo rate to remain at 6.25 percent until the fourth quarter of 2018 at least, and the reverse repo rate at 6 percent. “Inflation continues to be the biggest factor worrying the central bank. Given this, an easy monetary policy stance is ruled out for now,” wrote Dharmakirti Joshi, principal economist at Crisil. [caption id=“attachment_3206610” align=“alignleft” width=“380”]  Reuters[/caption] Consumer prices rose an annual 3.81 percent last month, the fastest pace since October 2016, inching closer to the RBI’s 4 percent target, lending weight to the central bank’s decision to step away from easing any further. Economists expect inflation to be at 5 percent for the 2017/18 fiscal year. This compares with the latest predictions from the RBI, which sees the rate at 4.5 percent in the first half of the year and 5.0 percent in the second half. Much will depend on India’s monsoon, or rainy season, crucial in a country where most of the population depends on agriculture, and will determine whether food inflation will remain in check. According to the weather office, India is expected to receive normal rainfall this year and have good distribution, which would ease concerns over farm and economic growth. While the median consensus in a recent poll was for no change in interest rates until at least 2019, a majority of economists who answered an extra question said the next move by the central bank would be a cut, probably towards the end of this year. By that time there would be a clearer indication of how the monsoon fares but is in stark contrast to what the central bank has been signaling so far. Recovery from demonetisation India’s economy is expected to expand at a faster pace in the current fiscal year as the acute effects from last year’s currency ban begin to fade. Prime Minister Narendra Modi’s Nov. 8 announcement of a ban on high-value bills removed 86 percent of India’s currency in circulation, hurting demand in a largely cash-based economy. But the economy is bouncing back and gross domestic product in this fiscal year will expand 7.5 percent and then 7.7 percent next, economists in the poll predicted. This compares with the International Monetary Fund’s projections of 7.7 percent for this fiscal year. As demonetisation was expected to slow growth in the October-December quarter of last year, a 7.0 percent expansion came as a surprise to markets and raised questions about the veracity of the data. Factory and services activity contracted in the months following the shock decision, but are now back in expansion mode and at their highest level in five months. If realised, India will keep its tag as the world’s fastest growing major economy, even as the Asia Development Bank predicts developing Asia is on track to post its slowest annual growth in 16 years.