MPC swings from ‘neutral’ to ‘accommodative’, but the RBI show is a non-event until banks play their part

The monetary policy committee (MPC) was unofficially ‘accommodative’ throughout this year, cutting rates in three consecutive policies. Now it is officially ‘accommodative’, meaning more rate cuts are on the cards. The overall tone of the monetary policy document conclusively suggests the MPC’s focus has now shifted to a growth angle and inflation is no longer the near-term priority. The growth projection for the current fiscal (2020) has been reduced to 7 percent from 7.2 percent in the April policy. More importantly, the monetary policy stance has been shifted from ‘neutral’ to ‘accommodative’ stance. As mentioned earlier the MPC has been in effect on an ‘accommodative’ policy since the beginning of this year but the reaffirmation of the stance is a signal to the markets that what it plans to do in August policy.-most likely another 25-50 basis point cut in repo rate which is at 5.75 percent now. [caption id=“attachment_5717441” align=“alignleft” width=“380”]  File image of RBi governor Shaktikanta Das. News18[/caption] The concern of the MPC on the growth scenario is clear in its guidance paragraph. “The MPC notes that growth impulses have weakened significantly as reflected in a further widening of the output gap…A sharp slowdown in investment activity along with a continuing moderation in private consumption growth is a matter of concern…The headline inflation trajectory remains below the target…Hence, there is scope for the MPC to accommodate growth concerns.” Its concerns are valid on the growth front. The gross domestic product (GDP) has been falling in the consecutive quarters. For the full fiscal year 2019, GDP fell to 6.8 percent as compared with 7.2 percent last year dragged by poorly performing manufacturing and agriculture sectors. Consumer demand is down and unemployment is at a 45-year high of 6.1 percent. The question is whether even another 50 bps rate cut will be enough to lift the faltering economy to a safer place until the manufacturing segment picks up and private investors return to the country. And here, it’s not just the cost of borrowing but a host of other issues that are posing hurdles to the growth recovery— the absence of land and labor reforms being one example. To be sure, the MPC’s move was totally expected. In the backdrop of falling growth and cooling inflation, it was clear that rate cut was on the cards. But, what is surprising is the change in stance from ‘neutral’ to accommodative’. What was the logic in changing the stance to ‘accommodative’ since the ‘neutral’ stance gave it the flexibility to cut rates anytime it wanted to. Already the MPC cut rates thrice to ‘neutral’ stance. So, what is the message the MPC wants to give to the markets here? According to Suvodeep Rakshit, Senior Economist, Kotak Institutional Equities, “ the change in stance to ‘accommodative’ was a bit of a surprise. Debt markets will take this as a significant positive move though most of the rate cut cycle is probably over.” No matter what stance the rate panel takes and the number of rate cuts, what is important to watch is whether the banks will pass on central bank’s policy signals to the end-consumer. Over the years, Indian banks have mastered the art of tricking the central bank by not passing rate cut benefits to borrowers, thus harming effective monetary transmission in the banking system. This is something one needs to watch going ahead.