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Key takeaways: The RBI MPC held status quo with a continued focus on returning inflation to the 4.0% target. Growth projections were raised to 7.2% for FY25 from 7.0% and inflation was retained at 4.5%. The surprise came from distribution of votes on rates and the stance where both were agreed with a vote of 4-2 vs 5-1 (stance), indicating that rate cut discussions have surfaced in the Monetary Policy Committee (MPC). The emphatic announcement of independence from the US Fed underscores this view. We retain our first rate cut expectation in Q4FY25. If the Monsoon is normal and rainfall spatial distribution is homogenous, the likelihood of a first cut in Q3FY25 will emerge.

RBI MPC starts to think about rate cuts

The MPC held the policy repo rate at 6.5%, in line with our expectations. It retained its stance on the “withdrawal of accommodation” by a vote of 4:6. Two MPC members voted in favor of a 25bp cut and change in stance to Neutral. This indicates rate cut discussions have surfaced. Also, Governor Shaktikanta Das said while the RBI MPC keeps an eye on global developments, the RBI’s reaction function evolves and focuses on domestic inflation – growth dynamics fully.

These developments, if supplemented by the RBI’s inflation projections quarterly, indicates the MPC has started to think about rate cuts. If this materializes, the MPC is likely to change its stance to Neutral in Q3FY25. However, in our view, the RBI is not in a hurry, which is evident from the Governor’s speech where a dip in inflation to 3.8% in Q2FY25 was clarified as, “due to favourable base effect”; he pointed out that in the next quarter, the CPI will crawl back above 4.5%+.

Monsoon remains key and its spatial distribution needs attention in our view. CY23 monsoon saw ~1SD variation vs long-term inter-regional average deviation, leading to an increase of 50bp in CPI and 322bp in CPI Food & Beverages in H2CY23 vs H1CY23. If food inflation eases and incremental weather shocks are absent, RBI is likely to get much needed comfort from inflation side.

We retain first rate cut call in Q4FY25

Considering these factors above, we expect the RBI to continue with its wait—and-watch mode in CY24 to ascertain whether the inflation impulses will remain at bay. A sustained disinflation trend is key, or else the possibility of headline CPI settling at 4.5%+ YoY remains high. Growth dynamics and continued positive impulses give the necessary policy space to hold rates at elevated levels.

For the upcoming meetings, we expect incremental development and commentaries by the RBI to prepare ground for the change in stance and first cut. If inflation impulses remain capped, a preponement of first cut is also a possibility. We assign an 80% probability to a first cut in Q4FY25 and 20% to Q3FY25. Recent rate cuts by ECB, Nordic central banks and potential first cut by BoE and Fed in Q3CY24 indicate monetary policy in Developed Markets (ex-Japan) is expected to loosen in 2HCY24. This will likely provide some necessary policy space not only for RBI but entire Emerging Market (EM space).

Raises FY25 growth by 20bp; retains inflation projection

The RBI sounded positive on domestic growth, notwithstanding global uncertainty. It retained its view that in FY25, domestic demand conditions are likely to support growth with rural demand catching up, continued buoyancy in the services sector, and urban demand, manufacturing activity & the investment cycle gaining steam, aided by robust government capex. Considering these factors, the RBI has raised FY25 growth to 7.2% vs 7.0% previously, with quarterly projections at 7.3% in Q1FY25 from 7.1%, 7.2% in Q2FY25 from 6.9%, 7.3% in Q3FY25 from 7%, and 7.2% in Q4FY25 from 7.0%.

Inflation projections were retained at 4.5% for FY25, in line with our expectations. As per RBI’s target, the headline CPI is likely to moderate below 4.0% to 3.8% in Q2FY25, owing to a favorable base effect. However, in FY25, inflation is not climbing down to 4.0% target, on which the RBI is keeping an unwavering focus. As FY25 progresses, discussions of a rate cut are likely to gain steam, especially if core inflation continues to provide disinflationary impulses along with Brent crude and overall input prices. During the post policy press conference, Deputy Governor Michael Patra was asked if rate cuts are off the table, his reply, “nothing is off the table” signals rate cut discussions have surfaced in this meet; we await further clarity when the minutes are released.

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