RBI cuts inflation forecasts for January-March 2016 by about 0.2%, with risks broadly balanced around the target of 6% for January 2016. Overall, inflation remains contained due to sharp descent in oil prices and a lesser than expected monsoon deficit. After a healthy onset of monsoon in June, July witnessed some lull; however, the overall rainfall during the season is near normal. Higher lake reservoir levels have augmented the prospects of an increased output in kharif crop. Effectively, sowing has picked up pace in oilseeds, pulses, rice and coarse cereals. Moreover, food management policy of the government has been efficient.
Growth – Work in Progress
The central bank acknowledged that economic recovery is still a ‘Work in Progress’, with no change to the projections. However, overall outlook for growth is improving gradually. Real income can benefit from fall in industrial commodity prices and improvement in agricultural activity. Prospects of a good harvest in case of a normal monsoon can revive rural demand. Conversely, fragile global economic landscape can dampen the growth in exports. In addition, private sector has failed to spark fresh investment demand. Considering all this, growth estimates for FY2015-16 are maintained at 7.6%.
Accentuation on Policy Transmission
Mr. Rajan reiterated that that money market rates have come down substantially, reflecting the series of rate cuts this year. Nevertheless, transmission of monetary policy is not evident in the bank lending rates. There is a lag of 3-4 quarters and it will take time for the effect to percolate. After a series of three interest rate cuts during this calendar year, the mean base lending rates of banks has fallen by around 30 basis points, disproportionate with the 75 basis points cut so far. RBI is banking on the fact that loan demand will pick up during the third quarter of this fiscal year and in the process banks will cut rates. Capital infusion into public sector banks by Government of India will also helping in lowering lending rates.
Rate outlook: Hope prevails
Monetary policy will continue to be data driven. The policy statement restates that the interest rate trajectory will be influenced by inflationary scenario, transmission of policy action and exogenous variable of US interest rate policy. In the next two months, the dust will settle down as far as the health of the monsoon and repercussions of an interest rate hike by US Federal Reserve is concerned. This will provide more clarity and courage to the RBI to further trim the interest rates. There is a decent likelihood that the central bank will go for 25 basis points rate cut later this year unless something untoward takes place post US Fed policy meeting in September.