The Reserve Bank of India’s Monetary Policy Committee (MPC) could take action in its upcoming review, marking a potential shift after 14 meetings of maintaining the status quo on interest rates and stance.
The MPC has so far navigated the first half of the fiscal year with inflation and monetary policy discussions predominantly influenced by rising food prices, which have kept the headline consumer price index (CPI) inflation away from the central bank's target.
Three primary factors have delayed any easing of policy: geopolitical tensions affecting energy prices, the US Federal Reserve’s interest rate decisions impacting global capital flows into India, and the performance of the southwest monsoon, which plays a crucial role in alleviating food price pressures.
However, strong domestic growth has provided the MPC with some leeway to maintain higher interest rates. A new composition of MPC members has generated interest regarding potential voting outcomes.
Since the June policy meeting, two of the four current members have expressed support for a rate cut of 25 basis points and a change in the stance to neutral, indicating a shift from the previous preference for maintaining higher rates. Market anticipation around the voting patterns is heightened as the new committee convenes.
The macroeconomic landscape has shifted, presenting three key changes that may facilitate easing.
Firstly, inflation dropped below 4 per cent in July and August. While the decline from 4.9 per cent in the June quarter to an average of 3.7 per cent in July and August can be attributed to a high base last year, it is expected to rise from September as the base effect diminishes. Nevertheless, favourable monsoon conditions, healthy kharif sowing, and improved prospects for rabi crops are anticipated to contain food prices.
Secondly, the US Federal Reserve has initiated a synchronised policy rate easing cycle in advanced economies, having cut its rate in September. This move is likely to lead to further cuts from the Fed and European Central Bank (ECB) in the coming years. As a result, an easier monetary policy in these regions could create additional space for rate cuts in India.
Thirdly, signs of weakening growth have begun to emerge, particularly in urban areas, in response to monetary tightening. As of mid-September, credit growth has slowed to 13 per cent from approximately 15 per cent at the fiscal year’s start, reflecting the impact of higher interest rates and stricter lending norms.
Although the RBI aims to support demand through rate cuts, it has raised concerns about funds being allocated to unproductive sectors or speculative purposes, particularly in light of a 40 per cent year-on-year increase in loans against gold as of mid-August. With system liquidity back in surplus, the RBI may adopt a more cautious approach to credit disbursement alongside any rate cuts.
Risks to inflation, growth, and the currency remain, including potential ramifications from the upcoming US Presidential election and escalating tensions in West Asia affecting shipping, transit costs, and commodity prices. Domestic inflation risks are largely contingent on the effects of adverse weather conditions.
In light of these factors, CRISIL anticipates a change in the MPC's stance from “withdrawal of accommodation” to “neutral” in the October meeting, with a rate cut expected in December.
Analysts predict a cumulative reduction of 50 basis points this fiscal year, with a gradual approach that emphasises liquidity management to ensure effective policy transmission.
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