India: Central Bank leaves rates unchanged and prioritizes medium-term inflation target
September 30, 2014
The Reserve Bank of India (RBI) decided to maintain the repurchase rate at 8.00% at its 30 September meeting, which was a decision the markets had expected. In addition, the Central Bank left the reverse repo rate at 7.00% and the marginal standing facility rate at 9.00%. The Bank’s decision represented the fourth consecutive meeting in which monetary authorities have refrained from moving interest rates.
As the RBI emphasized in its fourth bi-monthly monetary policy statement, economic growth did pick up momentum in the April-June period (the first quarter of FY 2014/2015). Nonetheless, the Bank cautioned that manufacturing production is showing signs of deceleration, whereas growth in exports remains healthy. Moreover, the Bank warned that an uneven monsoon may have an impact on crops. Some major production zones in the north-west region are experiencing drought-like conditions, while there are floods in the northern and eastern regions.
Regarding the evolution of prices, the Central Bank acknowledged that CPI inflation has moderated, amplifying calls for the Bank to reverse course and start easing monetary policy sooner rather than later in order to support continued sluggish economic activity. With CPI inflation looking increasingly likely to fall below the 8.0% target that the Central Bank set for January 2015, monetary officials said that, "the future policy stance will be influenced by the Reserve Bank's projections of inflation relative to the medium-term objective (6.0% in January 2016)." The Bank expects CPI inflation to rise to 7.0% in January 2016, up from its medium-term target of the 6.0%. Regarding the Bank’s statement, Sonal Varma and Aman Mohunta, Economists at Nomura Research, point out:
The RBI's projections for CPI inflation are much more hawkish than our baseline view. Broadly, the RBI expects CPI to undershoot its January 2015 target of 8%, but it sees upside risk to the January 2016 target of 6%. In particular, the RBI expects CPI to moderate to about 6% y-o-y in November 2014 (due to base effects, which it will look through), before inflation heads back to 8% in Q1 2015. Its modal forecast is for CPI inflation at 7% in Q1 2016, almost 100bp above its stated target. However, in the press conference, Governor Rajan downplayed this risk and indicated that these are model projections and should be read as ‘upside risk to the 6% target’. His assessment is that the 6% target is achievable but requires the RBI to remain watchful.
Finally, the RBI restated its FY 2014/2015 projection for GDP growth of 5.5%, within a likely range of 5.0% to 6.0%. For FY 2015/2016. The Central Bank sees economic growth picking up to 6.3%. The next monetary policy meeting will be held on 2 December.
Author: Ricardo Aceves, Senior Economist