The first monetary policy review for the FY 2019-20 saw the Reserve Bank of India (RBI) reducing the repo rate by 25 basis points from 6.25 percent to 6.0 percent, while retaining the monetary policy stance to neutral. These decisions are in tune with the medium- term target of CPI of 4 percent within a band of +/- 2 percent while supporting growth.
RBI's views on Inflation and Growth
In the February policy review, the CPI inflation was projected to be 2.8 percent in Q4:2018-19, 3.2-3.4 percent in H1:2019-20 and 3.9 percent in Q3:2019-20, with risks broadly balanced. However, the actual inflation averaged 2.3 percent in January-February 2019.
The Central Bank has put forth the following factors that will guide inflation during 2019-20:
• Low food during January-February will impact near term inflation outlook.
• The fall in fuel group inflation, which was observed at the time of the Monetary Policy Review in February, has become accentuated.
• CPI inflation excluding food and fuel was lower than expected in February, resulting in downward bias to headline inflation.
• International crude prices have increased by 10 percent from the time of the February policy review.
• The inflation expectations of households and input and output price expectations of producers have further moderated as indicated by Reserve Bank's surveys.
Taking into account all these factors and the expectation of a normal monsoon in 2019, the CPI inflation has been revised downwards to 2.4 percent in Q4:2018-19, 2.9 - 3.0 percent in H1:2019-20 and 3.5 - 3.8 percent in H2:2019-20.
In the February policy review, the GDP growth for 2019-20 was projected at 7.4 percent, with a range of 7.2-7.4 per cent in H1, and at 7.5 percent for Q3. However, the RBI has pegged the GDP growth for 2019-20 at 7.2 percent, with a range of 6.8 - 7.1 percent in H1:2019-20 and 7.3-7.4 percent in H2 on account of the following major factors:
• Weakening in Domestic Investment Activity as reflected by a slowdown in production and imports of capital goods.
• The potential impact of global growth moderation on India's Indian exports.
Some of the positive triggers for growth are-:
• Higher financial flows to the commercial sector will be positive for overall economic activity.
• Private consumption will be positively impacted by public spending in rural areas and an increase in the disposable incomes of households due to tax benefits.
• There is optimism with respect to business expectations.
The Central Bank continues to be concerned about certain uncertainties which they believe will cloud the inflation outlook in the months to come.
• The short-term outlook for food inflation remains benign as there is an expectation of a favorable domestic and global demand-supply balance of key food items. However, there is a probability of El Nino in 2019, which may impact monsoons and thus there is also a possibility that vegetable prices could increase during summer months.
• Although inflation in the fuel group items like electricity firewood and chips saw a softening in H2:2018-19. There is a risk that this trend of softening inflation in fuel items might not sustain.
• The outlook on oil prices continues to be hazy both on the upside and downside.
• The inflation excluding food and fuel has remained elevated over the past twelve months. The Central Bank is of the view that if the recent slowdown in economic activity accentuates, it can have a bearing on the inflation outlook in this category.
• The volatility in financial markets will have a bearing on the inflation outlook.
• There needs to be a careful monitoring of the Fiscal Situation of the Government.
Finally, the Monetary Policy Committee (MPC) continues to stress the fact that domestic growth needs to be strengthened by spurring private investment, which has remained sluggish.
We believe that the Central Bank's decision of cutting the policy rate is in the right direction as it will help in aiding growth momentum that has been showing signs of weakness in the past few quarters. As we wrote in our last note, the RBI and GOI are on the same page as far as putting more surplus in the hands of people is concerned, and this would drive consumption in the coming months.
Although the MPC has gone ahead and cut the rate this time, they seemed to be maintaining a cautious stance on the inflation outlook. This, we think, will decide the future course of action as far as the next rate cut is concerned.
We maintain status quo with our Fixed Income Recommendations and continue to suggest short term funds and corporate bond funds across risk profiles, while our Moderately Aggressive and Aggressive investors can think of taking an exposure into credit risk funds and dynamic bond funds.