Reserve Bank of India (RBI) Monetary Policy Review

RBI offers a surprise move, cuts the repo rate by 0.25 basis points to 6.25% in its 6th bi-monthly meeting.

Published bi-monthly by the Reserve Bank of India (RBI). Updated to the month of February 2019. (Published on February 7, 2019).

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The Reserve Bank of India (RBI) in its 6th bi-monthly policy statement decided to cut the policy repo rate under the liquidity adjustment facility (LAF) by 25 basis points to 6.25% from 6.5%. It also changed its stance to neutral from the earlier calibrated tightening stance. The decision to cut the rate was in response to lower-than-expected inflation estimates as well as weakening growth. Consequently, the reverse repo rate stands at 6% and marginal standing facility rate at 6.5%. 

The decision was against the market expectations (Bloomberg poll) who had expected the Central Bank to shift its stance but not go for a rate cut. The decision of the MPC comes after four out six members voted in favour of rate cut by 25 basis points and a unanimous vote by all for change in stance to neutral from calibrated tightening.

In terms of MPC's assessments on inflation, India's retail inflation had eased to 2.19% in Dec'18 from a rise of 2.33% in Nov'18, taking this into consideration the inflation estimates have further been revised lower (2.8% in Q42018-19, 3.2-3.4% in H1:2019-20) by the Central Bank. It lowered the inflation projection for 2018-19 to 3.9%. The RBI said that several food groups have been experiencing excess supply conditions domestically and internationally. Hence, the short-term outlook for food inflation appears benign, despite adverse base effects. In terms crude oil price outlook, the RBI said that there has been an unexpected moderation and so it remains broadly the same as in the Dec'18 policy meet.

For the GDP print, growth for 2019-20 was projected at 7.4% with risks evenly balanced as trade tensions and associated uncertainties appear to be moderating global growth. The MPC also said that the aggregate bank credit to commercial sector remains strong and softer crude oil prices can influence the growth outlook. The need to strengthen private investment activity and not just private consumption was recognized by the MPC.

Soon after the RBI came out with the decision to cut repo rates and change its stance, the NSE index shot up 0.04% at 11068.05 but the rupee weakened to 71.69 to a dollar.

In cutting the repo rate, it may seem like an advantage for the Modi government which wants to boost lending, as the banks and NBFCs will be able to now reduce lending rates. Though it looks like the RBI has chosen to ignore the high core inflation as well as the government's expansionary interim budget. The government has also not fared well on the fiscal front as it failed to meet the fiscal deficit target second year in a row (3.4% for 2018-19). Government deciding to go for cash to farmers and tax cuts to the middle-class will certainly increase fiscal cost and could possibly lead to hardening of inflation.

Brief Overview
RBI's monetary policy has emerged as a critical policy tool for achieving overall macroeconomic management, price stability, and growth. The conduct of monetary policy has evolved over time on the front of the policy framework and operating procedure. Back in the 1980s, when the economy was plagued by high inflation fuelled by excessive money supply in the form of RBI credit to government, price stability became utmost important. So, RBI adopted "monetary targeting with feedback" (targeting money supply) as the monetary policy framework suggested by the Chakravarty Committee (1985).

With the development of the financial sector, liberalization of the economy (1991) and freeing up of interest rates and exchange rates, RBI shifted its focus from exclusive reliance on monetary aggregates to a broad set of indicators. Therefore, in 1998-99 RBI started pursuing the multiple indicators approach only to later face problems associated with fulfilling multiple objectives.

However, on the recommendations of the Urjit Patel Committee (2014), RBI shifted to a new monetary policy framework of "inflation targeting". Since 2014-15, RBI has kept its mandate of achieving price stability and growth via inflation targeting.

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Next Release Date: April 5th, 2019