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Published on 8/02/2019 5:17:02 PM | Source: Motilal Oswal Securities Ltd

RBI turns dovish, cuts policy rates - Motilal Oswal

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High probability of one more rate cut in April

* The Reserve Bank of India (RBI) cut its policy rate by 25bp and changed its stance to ‘neutral’ from ‘calibrated tightening’. The decision to cut rates was in line with our expectation, but in contrast to consensus of a status quo.

* The central bank cut its 4QFY19/1HFY20 CPI inflation projections sharply by 40bp/70bp to 2.8%/3.3%. It also cut its FY19/20 GDP estimates to 7.2%/7.4% from 7.4%/7.6% earlier.

* The recent policy also opens up the probability of another rate cut in Apr’19. The RBI cut its 4QFY19 inflation forecast from 3.2% to 2.8%; however, our estimates suggest that inflation would be closer to ~3.2% in Jan-Mar’19. If so, the RBI would revise up its FY20 inflation projection. While this may dent the chances of a rate cut in Apr’19, if our expectations of 3QFY19 GDP growth of ~6.5% materialize, this could allow the RBI to deliver another rate cut.

* We believe that record borrowings by the governments (center + states) in Feb-Mar’19, along with usual year-end liquidity tightening and election-led factors, could prompt the RBI to support liquidity by announcing aggressive OMO purchases (of up to INR800b) in Mar’19.

 

* RBI cuts policy rates – a move in line with our expectations…:

The MPC cut the policy rates by 25bp, taking the repo rate to 6.25%, the reverse repo rate to 6% and the marginal standing facility (MSF) rate to 6.5% (Exhibit 1), in its final bimonthly Monetary Policy Review for FY19. The move was exactly in line with our expectation, but in contrast to market consensus of a status quo. While the MPC unanimously changed its policy stance to ‘neutral’ from ‘calibrated tightening’, the decision to cut the policy rate was taken by a majority of 4-2 votes. Dr Viral Acharya and Dr Chetan Ghate voted to keep the rates unchanged.

 

* …while lowering inflation projections quite sharply…:

The RBI has projected inflation at 2.8% in 4QFY19, 3.3% in 1HFY20 and 3.9% in 3QFY20. The projections for 4QFY19 and 1HFY20 have been revised downward by 40bp and 70bp, respectively (v/s the projections in the Dec’18 policy). According to the RBI, such sharp downward revisions reflect continued deflation across several food items, excess food supply conditions, a collapse in inflation in some fuel items, a benign crude oil outlook, and a significant moderation in household inflation expectations and producer input/output price expectations.

 

* …and cuts growth projections for FY20:

The RBI expects GDP growth to come in at 7.2% in FY19, in line with the CSO’s estimate, but lower than its earlier projection of 7.4% and our estimate of 7%. It also cut its 1HFY20 forecast to 7.2- 7.4% from 7.5% earlier. For full-year FY20, it expects growth to come in at 7.4%, lower than its earlier estimate of 7.6%.

 

* One more rate cut highly likely:

The recent policy opens up the probability of another rate cut in Apr’19. The RBI has reduced its 4QFY19 inflation forecast from 3.2% to 2.8%; however, our estimates suggest that inflation would be closer to ~3.2% in Jan-Mar’19. If so, RBI would revise upward its FY20 inflation projections. While this may dent the chances of a rate cut in Apr’19, if our expectations of 3QFY19 GDP growth of ~6.5% (lower than the RBI’s forecast of 6.8% in 2HFY19) materialize, this could allow the RBI to deliver another rate cut. In any case, record borrowings by the governments (center + states) in FebMar’19, along with usual year-end liquidity tightening and election-led factors, could prompt the RBI to support liquidity by announcing aggressive OMO purchases (of up to INR800b) in Mar’19.

 

 

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