RBI keeps rate steady, seeks better transmission: 10 takeaways from monetary policy

The Reserve Bank of India today held its policy rate steady at the bi-monthly monetary policy review. This is on the expected lines as in a Reuters poll of 45 analysts all the respondents had said the central bank will hold the rates this time round. The reason for the RBI’s decision to hold back any action on the rate front is the overall recovery evident in the economy. Here are the key takeaways from governor Raghuram Rajan’s decision. 1) There is indeed recovery: On Monday, the government released the GDP data for the July-September quarter which showed the economy grew at 7.4%. The data on the gross value added also grew 7.4 percent during the quarter. The central bank has noted this in the policy statement. [caption id=“attachment_2528308” align=“alignleft” width=“380”]  Reuters[/caption] “On the domestic front, provisional estimates of gross value added (GVA) at basic prices for Q2 of 2015-16 rose on the back of acceleration in industrial activity. Other indicators suggest the economy is in the early stages of a recovery, though with some areas of continued weakness,” the statement said. 2) Pick-up in factory output: Noting the pick-up in the index of industrial production, it said early results of its order books, inventories and capacity utilisation survey indicate that “there was robust growth in new manufacturing orders in the second quarter, and finished goods inventories declined while raw materials inventories increased”. This is in consonance with the GDP data released yesterday, which showed that manufacturing sector grew 9.3 percent in July-September from 7.9 percent a year ago. In the first quarter of the current financial year, the sector growth stood at 7.2 percent. However, it has noted that though there are signs of pick-up in urban consumption, rural demand is under stress. 3) RBI not sure whether private investment will start: Citing the Centre for Monitoring Indian Economy data, the RBI said the new project announcements have grown strongly in the second quarter of this financial year. However, it added: “It remains to be seen whether growing public investment can crowd in private investment on a sustained basis, despite the still-low capacity utilisation. In a recent speech Rajan had said that factories in India are running 30 percent below capacity, pointing to the weak capital investment. 4) Construction will see uptick: The central bank has noted many contradictory signals. While there has been a rise in commercial vehicle sales reflecting a rise in transportation demand and passenger traffic in the aviation sector, other indicators like tourist arrivals, cargo handled at major ports, railway freight traffic, domestic and international air cargo traffic, and measures of construction such as steel consumption have witnessed a slow growth. However, it expects the government’s recent initiatives related to rail, port and road projects to improve construction activity. 5) Rise in inflation excluding food and fuel a worry: Excluding food and fuel, the biggest contributor to headline inflation is education and health services. “CPI inflation excluding food, fuel, petrol and diesel also rose for three consecutive months on account of price increases in respect of housing, recreation and amusement, and personal care and effects,” the policy statement said. “While oil prices, barring geopolitical shocks, are expected to remain benign for a few quarters more, the uptick of CPI inflation excluding food and fuel for two months in succession warrants vigilance,” it has said. 6) Onus on govt to rein in food prices: The RBI has noted that the pulse prices indeed pushed up food inflation in October, however the prices are likely to follow the expected trajectory meet the 6 percent target for January 2016. However, the onus to manage supply is on the central government. “The early indications of rabi sowing together with low reservoir levels suggest that astute supply management by the central government, including close coordination with State governments, is necessary to minimize any shortfall in the rabi crop,” the statement said. 7) Outlook for agriculture moderate: The government has managed to stem the effects of the deficient south-west monsoon with timely policy interventions. It has noted that value added in agriculture and allied activities picked up on the modest increase in kharif output. “Overall, the current outlook for agricultural growth in 2015-16 appears moderate at best at this juncture,” the RBI has said. 8) Impact of 7th Pay Commission: The implementation of the Pay Commission proposals, and its effect on wages and rents, will also be a factor in the RBI’s future deliberations. However, the central bank expects the direct effect of the recommendations on aggregate demand to be offset by appropriate budgetary tightening as the government stays on the fiscal consolidation path. 9) Focus is on transmission of rate cuts: Rajan reiterated his focus on monetary policy transmission. Until now, the central bank has cut its policy rate by 125 basis points this year, banks have transmitted as much 60 bps. In order to address this, the RBI said it “will shortly finalise the methodology for determining the base rate based on the marginal cost of funds, which all banks will move to”. Also, the government is examining linking small savings interest rates to market interest rates. “These moves should further help transmission of policy rates into lending rates,” it said. 10) RBI watching bank NPA clean up: In addition, the on-going clean-up of bank balance sheets will help create room for fresh lending, the RBI has noted. Gross NPAs of 39 listed banks as of September stand at Rs 3.4 lakh crore or 4.9 percent of total loan book. With inputs from Kishor Kadam