RBI keeps key rates on hold again, FY21 growth pegged at 6%

India’s central bank Reserve Bank of India on Thursday kept interest rates on hold at 5.15 percent–for the second successive policy meeting–as inflation remains elevated, and the outlook highly uncertain at this stage. Crucially, the RBI has projected GDP growth for FY21 to be at 6 percent, though several analysts have forecast lower levels of growth.

The RBI has argued that several high frequency indicators of services have turned upwards in the recent period, pointing to a modest revival in momentum. These include tractor sales (up 2.4 percent in December after ten months of decline); domestic air traffic showing double digit growth in November, followed by modest growth in December last year.

Growth in three-wheeler sales and railway freight traffic has accelerated, while port traffic turned around in December.

But economists are not too enthused about a pickup in growth, arguing that there are a lot of moving pieces which still need to be fixed. “The current socio-political scenario in India, concerns over the spread of coronavirus and the loss of investor confidence in growth numbers are all real concerns,” said an economist at a private bank, declining to be named.

Private consumption has been revised downwards by 90 bps in FY19. For FY18, gross fixed capital formation has been revised down by 210 bps led by private and public investment.

In a bid to spur growth, the government on February 1 announced a “counter cyclical” budget, said Sameer Narang, chief economist at Bank of Baroda. Finance minister Nirmala Sitharaman announced a new and simplified personal income tax regime, which aims to lower taxes and thus boost consumption spending.

The September 2019 move to lower corporate taxes and the recent move to abolish dividend distribution tax burden for corporates will help improve cash flows and, over time, improve return on equity and overall earnings. But there is little clarity at this stage whether corporates will start to spend more.

Thursday’s monetary policy saw the RBI take various steps to help banks reduce their cost of borrowing and to encourage them to lend more to critical sectors. 

The daily fixed rate repo and four 14-day term repos every fortnight being conducted at present, are being withdrawn. The RBI has also been decided that from the fortnight beginning February 15, it will conduct term repos of one-year and three-year tenors of appropriate sizes for up to a total amount of Rs 1 lakh crore at the policy repo rate. “This should encourage banks to undertake maturity transformation smoothly and seamlessly so as to augment credit flows to productive sectors, as per the central bank,” says Suyash Choudhary, head of Fixed Income at IDFC AMC.

Additionally, it has been decided that scheduled commercial banks will be allowed to deduct the equivalent of incremental credit disbursed by them as retail loans for automobiles, residential housing and loans to micro, small and medium enterprises (MSMEs).

The RBI also noted that monetary transmission was improving. As against the cumulative reduction in the policy repo rate by 135 basis points since February 2019, transmission to various money and corporate debt market segments up to January 31, 2020, ranged from 146 bps to 190 bps.
More positives from Thursday’s policy are that the RBI has said that it will continue with its accommodative stance as long as it is necessary to revive growth, while keeping inflation under control.

“This indicates that the RBI is not panicking,” said Siddhartha Sanyal, chief economist at Bandhan Bank. It thus indicates that the RBI has the space and might be willing to cut rates once inflation starts to taper off.