Given the extent of fall in consumer inflation in the recent months, and favourable monsoon forecast, the Monetary Policy Committee may have a good reason to offer a surprise rate cut today, contrary to market expectations.
If the Reserve Bank of India (RBI) announces a rate cut, it will also be an admission of how it got the inflation course wrong early this year. Remember, in April this year, the RBI shared its outlook for financial year 2017-18, saying it expects inflation to pick up from 3.7 percent in February and hit 4.2 percent in the first quarter of the current year. But, inflation has eased since then and finally touched 2.99 per cent in April, inching closer to the lower band of MPC’s inflation target of 2 percent.
There is Goods and Services Tax (GST) that will start from 1 July and a section of economists believe that the MPC may hold the rates back to assess the GST impact on inflation. But, this is unlikely for two reasons. One, GST -- going by the current rate slab structure -- is unlikely to turn out to be inflation shock. Second, the impact of GST on inflation will take time to show.
Beyond inflation numbers, the one big factor that will likely play here is a major slowdown in growth and the Narendra Modi government’s reminders to MPC that time is right for a rate cut.
Just recently, in an interview with CNBC TV18, union finance minister Arun Jaitley listed the reasons to support his argument for a rate cut. “Inflation has been under control for a long time. Don’t expect the crude oil prices to go through the roof. Any FM in the current scenario will like a rate cut. But await MPC’s decision.”
Growth has slowed down by a big margin in the Jan-March quarter to 6.1 percent on account of a slew of factors including demonetisation, a slowing global economy and domestic factors. This, coupled with government saying that the RBI is not doing enough to support growth will put pressure on the MPC to announce a rate cut.
As pointed out in an earlier column , whether a rate cut alone will benefit the economic growth is a matter of larger debate.
Rate cuts from RBI have hardly translated into higher credit growth in the past to help industries. In fact, the bank lending to industry has slowed to a trickle now. The reason for this is not really high interest rates but poor demand from corporates (slow economic activities) and huge amount of bad loans on the balance sheets of banks.
Banks, too, will be reluctant to cut rate further and take further credit exposure when these entities are already fighting a bad loan crisis. Unless this problem is addressed, a rate cut wouldn’t do much help to support the economic growth beyond adding to the positive sentiments.
One shouldn’t be surprised if the MPC goes for a surprise rate cut today, offer a benign statement on inflation trajectory and voice concern on growth scene. But, even if it goes for a token cut, how much of it will get translated into lower bank lending rates and aid growth is something one needs to wait and watch.
Updated Date: Jun 07, 2017 10:48 AM