Considering the Reserve Bank of India’s (RBI) trouble with sticky core inflation, we think the Monetary Policy Committee (MPC) will go for a 25 basis points (bps) hike in the February policy. The decision obviously won’t be unanimous, but the resolution is still likely to pass with a majority. We also think the time has come for the MPC to consider changing the stance of monetary policy from “withdrawal accommodative” to neutral, as real rates have turned positive.
As per our own assessment, there is no need for further rate hikes at this juncture, given that significant front loading has already taken place, and real rates with respect to headline Consumer Price Index (CPI) are likely to turn positive by over 100bps in 1HFY24. is likely to. Inflation, even at the current policy rate of 6.25%.
But, given that the current decline in headline CPI inflation is mainly on account of softening food inflation, and that core inflation is still sticking uncomfortably at over 6%, the RBI insurance rate hike Although it has a smaller dosage in comparison. past.
As per our assessment, with or without this rate hike, core inflation should begin to ease below 6% from April-June, and average around 5.5% in FY24; Therefore, rate hikes may be avoided at this juncture, as the risk-reward of further rate hikes is more skewed towards inflation than growth. Our medium-term forecast suggests that core inflation will remain moderate over the coming quarters, with a gradual recovery in growth momentum, which is in line with the findings of previous empirical research.
The expected 25 bps hike will be accompanied by a downgrade in RBI’s headline CPI forecast. With CPI averaging 6.1% in October-December 2022, 50 bps lower than RBI’s forecast of 6.6%, a downward revision is inevitable.
We now forecast FY23 CPI inflation to average 6.5% in FY23 (RBI’s 6.7%), with January-March CPI averaging 5.5% (RBI’s latest forecast is 5.9%).
Our April-June (DB estimate 4.3% vs RBI 5.0%) and July-September CPI (DB estimate 4.8% vs RBI 5.4%) forecast are also 60-70 bps lower than RBI’s CPI forecast. Overall, we forecast FY24 CPI inflation to be at 5% with risks to the upside.
But how long is the RBI expected to hold on before cutting policy rates? To answer this question, we analyzed data from the past two decades to understand how much the central bank did before raising rates after a rate cut cycle and before cutting rates after a rate hike cycle. Time has waited. We find, the pause period before starting a rate hike cycle is generally longer (in terms of months) than the pause period before a rate cut cycle.
According to our analysis, overall, the RBI has waited 9-18 months before starting a rate hike cycle, while the pause period before a rate cut cycle has been 5-11 months.
After February, we expect the RBI to take a long pause and then start cutting rates from December 2023, assuming convergence with the US Fed’s rate cut cycle, which would be a pause of about 10 months That the central bank hikes for the last time in February. ,
We believe that unless the US Fed is ready to cut rates, it will be difficult for RBI to cut rates.
If the Fed easing cycle gets postponed compared to our current baseline expectations, it is plausible that the RBI may even consider cutting rates after a few months, so that the interest differential between the repo rate and the fed funds rate is brought down to 100 bps. should not be allowed to be less than ,
If the repo rate rises to 6.50% in February, the RBI may consider a 100 basis points cut between December 2023 and June 2024, bringing the repo rate down to 5.50% by the middle of next year.
Kaushik Das is Managing Director and Chief Economist – India and South Asia, Deutsche Bank, India.
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