RBI’s call to keep rate same bold & brilliant: Shaktikanta

Describing RBI’s decision to maintain status quo as “bold and brilliant”, the Finance Ministry on Wednesday said rate cut in times of global uncertainty would have prompted overseas investors to withdraw their investments.

“Perhaps there is uncertainty about US Fed rate decision which is due shortly. So keeping the uncertainty in the international sector in mind...with some kind of resistance to downward pressure on inflation, RBI has taken a decision to take a pause and adopt wait and watch policy,” Economic Affairs Secretary Shaktikanta Das said.

In its fifth bi-monthly monetary policy review RBI today kept benchmark interest rate unchanged at 6.25 per cent.

“It is a bold and brilliant call by the Reserve Bank of India. Bold, because it is contrary to what people expected,” Chief Economic Adviser Arvind Subramanian said.

“If they had cut rates, then it would have been more attractive for investors to leave the rupee and invest in other currencies. So, that is also a very important fact.

“Because these are uncertain times, because of domestic environments they also had to take into account that whether these liquidity flows into the banking system are going to be temporary or permanent. And so, it is worth waiting for a month or two, when we know what happens, to take a more considered medium term call,” he said.

On the downward revision of Gross Value Added from 7.6 per cent to 7.1 per cent, Das said, the decline in GDP has been projected much more by several other quarters and the RBI projection counters that.

As far as Finance Ministry is concerned, he said, “it is a bit early in the day to take a call. we will analyse the number and take a view.” 

The Finance Ministry is still in the process of making its assessment, Subramanian said, adding, “because, there is a lot of anecdotal evidence that’s going on, with mixed signals coming and we still don’t have a good macro read so we will look at the data as it comes”.

On full transmission of rate cuts so far, Das said, expectation is that banks will lower the rates.

“In fact, in the last two-three days, banks have cut interest rate. Against 175 basis points repo rate reduction by RBI from January 2015, banks have passed on 110 basis points to new borrowers and so far as existing loans are concerned it is lower than that,” he said.

Demonetisation could result in short-run disruptions in economic activity in cash-intensive sectors like retail trade, hotels, restaurants and transportation, and the unorganised sector, RBI said on Wednesday.

The withdrawal of old Rs 500 and 1,000 notes “could result in a possible temporary reduction in inflation of the order of 10-15 basis points in Q3 (October-December period”, the central bank said in the Fifth Bi-monthly Monetary Policy Statement Resolution of the Monetary Policy Committee (MPC).

RBI, however, kept retail inflation target of 5 per cent for the fourth quarter of the fiscal and the medium-term target of 4 per cent within a band of +/- 2 per cent while supporting growth.

MPC, RBI said, felt that the assessment is clouded by the still unfolding effects of the withdrawal of specified bank notes (SBNs).

“The outlook for GVA (gross value added) growth for 2016-17 has turned uncertain after the unexpected loss of momentum by 50 basis points in Q2 and the effects of the withdrawal of SBNs (Rs 500/1,000 notes) which are still playing out,” the policy document said.

Downside risks in the near term could travel through two major channels.

One is “short-run disruptions in economic activity in cash-intensive sectors such as retail trade, hotels and restaurants and transportation, and in the unorganised sector”.

The second channel is aggregate demand compression associated with adverse wealth effects.

“The impact of the first channel should, however, ebb with the progressive increase in the circulation of new currency notes and greater usage of non-cash based payment instruments in the economy while the impact of the second channel is likely to be limited,” RBI said. 

On price situation, RBI said retail inflation measured by the headline Consumer Price Index (CPI) eased more than expected for the third consecutive month in October, driven down by a sharper than “anticipated deflation” in the prices of vegetables.

The liquidity conditions have undergone large shifts in third quarter so far, it said.

Surplus conditions in October and early November were overwhelmed by the impact of the withdrawal of old high denominations notes from November 9.

“Currency in circulation plunged by Rs 7.4 trillion up to December 2; consequently, net of replacements, deposits surged into the banking system, leading to a massive increase in its excess reserves,” RBI said.

The six-member MPC took note of the upturn in the prices of several items that is masked by the easing of inflation on base effects during October in its policy decision.

“Despite some supply disruptions, the abrupt compression of demand in November due to the withdrawal of SBNs could push down the prices of perishables in the reading that becomes available in December,” RBI said.

On the other hand, prices of wheat, gram and sugar have been firming up. “While discretionary spending on goods and services in the CPI excluding food and fuel constituting 16 per cent of the CPI basket could have been affected by restricted access to cash, the prices of these items may weather these transitory effects as they are normally revised according to pre-set cycles,” it added.