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MPC hikes policy repo rate by 35bp to 6.25%

Expect at least one more rate hike of 25bp in CY23

* The RBI, on 7 th Dec’22, hiked the repo rate by 35bp to 6.25%. Consequently, the standing deposit facility (SDF) and the MSF/bank rate now stand at 6.0% and 6.5%, respectively. The hike was in line with both our and market expectations. This is the fifth rate action by the RBI in FY23 to date. Cumulatively, the central bank has hiked repo rate by 225bp (excluding the 40bp hike on the SDF in Apr’22) in four scheduled and one out-of-turn policy meetings.

* The MPC reiterated its focus on “withdrawal of accommodation” to contain inflation while supporting growth. The decision on rate hike was taken by a 5:1 majority with Prof. Jayanth R. Varma voting against the hike. The decision on the stance was made with a 4:2 majority as Prof. Varma and Dr. Ashima Goyal voted against this part of the resolution.

* While the RBI has kept its inflation forecast unchanged at 6.7%, the central bank revised its real GDP growth forecast downward to 6.8% YoY from 7.0% YoY earlier for FY23. CPI inflation/real GDP growth assumptions stood at 5.0%/7.1% for 1QFY24E and 5.4%/5.9% for 2QFY24E, respectively.

* Overall, two points that stood out for us are: a) the RBI’s confidence on India’s resilience in GDP growth since monetary tightening began, and b) the fight against inflation notwithstanding due to the numerous upside risks to it, the worst is behind us. Therefore, we believe that there is room for the RBI to hike rates by at least another 25bp in CY23E. This, of course, is contingent on: a) the US Federal Reserve’s monetary policy decisions in Dec’22 and Jan’23 and ii) India’s inflation prints in Nov’22-Dec’22.

I. Policy repo rate raised to 6.25%

* The RBI, on 7th Dec’22, hiked the repo rate by 35bp to 6.25%. Consequently, the SDF and the MSF/bank rate now stand at 6.0% and 6.5%, respectively. The hike was in line with both our and market expectations. This is the fifth rate action by the RBI in FY23 to date. Cumulatively, the RBI has hiked repo rate by 225bp (excluding the 40bp hike on the SDF in Apr’22). The MPC reiterated its continued focus on “withdrawal of accommodation” to contain inflation while supporting growth. The decision on rate hike was taken by a 5:1 majority with Prof. Jayanth R. Varma voting against the hike. The decision on the stance was made with a 4:2 majority as Prof. Varma and Dr. Goyal voted against this part of the resolution.

II. The RBI retained its inflation forecast but downgraded growth forecast (second time in a row) for FY23

* CPI inflation forecast retained at 6.7% YoY…: The RBI Governor mentioned that the inflation trajectory going ahead would be shaped by both global and domestic factors. Although domestic food prices are likely to ebb and global commodity prices are also moderating gradually, unabating geopolitical tensions continue to impart upside risk to inflation trajectory. The RBI Deputy Governor, Dr. Michael Debabrata Patra mentioned that three factors: a) pass through of high input prices by corporate sector, b) high imported inflation because of INR depreciation and c) soaring services inflation pose an upside risk to core inflation in India. Therefore, although inflation has come-off in Oct’22, its sustainability is the key. The RBI continues to expect inflation at 6.7% YoY in FY23 (1Q/4Q at 6.6%/5.9%) and 1QFY24/2Q at 5%/5.4%, respectively.

* …but real GDP growth projection was revised down to 6.8% for FY23: Even though 2QFY23 real GDP was 6.3% YoY, in line with the RBI’s expectation, the central bank expects FY23 real GDP to come in at 6.8% YoY, lower than the earlier expected 7.0%. Despite a better rural economy, rebound in services sector and robust urban consumption, the RBI believes that the economy faces accentuated headwinds from protracted geopolitical tensions, tightening global financial conditions and slowing external demand. While the RBI expects 4.4% YoY growth in 3QFY23 (v/s earlier expected 4.6%), it expects 4.2% YoY growth in 4QFY23 (v/s earlier expected 4.6%). Real GDP growth for 1QFY24 is forecasted at 7.1% YoY (v/s 7.2% earlier) and at 5.9% YoY for 2QFY24.

III. Our view

We expect at least another rate hike of 25bp in Feb’23: Today’s 35bp rate hike was on expected lines. Two points that stood out for us are: a) the RBI’s confidence on India’s resilience in GDP growth since monetary tightening began, and b) the fight against inflation notwithstanding due to the numerous upside risks to it, the worst is behind us. Therefore, we believe that there is room for the RBI to hike rates by at least another 25bp in CY23E. This, of course, is contingent on: a) the US Federal Reserve’s monetary policy decisions in Dec’22 and Jan’23 and ii) India’s inflation prints in Nov’22-Dec’22.

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