Dovish Policy: Expect 25 bps cut by February/April

The RBI MPC has, yet again, cut its H2FY19 inflation forecast to 2.7-3.2% from 3.9-4.5% earlier and estimated the H1FY20 inflation to be between 3.8-4.2% from the Q1FY20 estimate of 4.8% in October. (Reuters)

Expect the RBI MPC to roll back at least 25 bps of the 50 bps rate hike in February or April. After all, growth is set to slow with tight liquidity aggravating base effects. In fact, it works out to 6.5% averaged across the 2017-18 September quarters, even below the 6.9% average of the new GDP back series. Secondly, the RBI MPC’s inflation risks are expectedly proving overdone, with inflation set to slip to 2.8% in November on low agri-inflation. The RBI MPC has, yet again, cut its H2FY19 inflation forecast to 2.7-3.2% from 3.9-4.5% earlier and estimated the H1FY20 inflation to be between 3.8-4.2% from the Q1FY20 estimate of 4.8% in October. Finally, global growth will slow by 20 bps to 3.6% in 2019. US economists now see downside risks to the 100 bps Fed hike call in 2019.

February or April inflation growth, rabi and oil to determine

The following issues will be looked at for a rate cut call between February and April:

– With H2FY19 inflation set to average 3.5%, the ex-post real policy rate/1-year T-Bill rate would rise to 3/3.65%, well above RBI’s 1.25-1.75% band.
– Further evidence that growth is slipping to 7% in H2FY19 from 8.2% in the June quarter with a liquidity crunch aggravating base effects.
– Slow sowing (8.3% down y-o-y) is a concern. However, Bhakra and Pong and Thein dam water levels, which irrigates the wheat crop, at 85%/80%/79%, are far higher than 77/63/46% seen last year.
– Oil strategists see $70/bbl in Q1FY19, up 3.7% from Q1FY18’s $67.5/bbl.


RBI to OMO Rs 500 billion a month in March quarter
Expect RBI to step up OMO to Rs 500 billion a month through March. Liquidity models estimate that it has to inject $33 billion of durable liquidity in FY19. Balance of payments estimates forecast RBI FX intervention at $26 billion ($24 billion) even if FPIs end FY19 flat ($15 billion
outflow).

RBI has OMO-ed $23 billion. Adjusted for the Centre’s buyback of $5.5 billion, it has to OMO another $30 billion by March. Even after RBI’s Rs 400 billion OMO, the money market will likely end with a deficit of Rs 960 billion in December.

Edited excerpts from BofAML’s India Economic Watch (December 6)

The author is Chief economist at Bank of America Merrill Lynch. Co-authored by Aastha Gudwani, India economist with BofAML

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Source: Financial Express