Fifth Bi-monthly Monetary Policy Statement, 2019-20

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Key Points

  • Policy repo rate unchanged at 5.15%, reverse repo at 4.90% and MSF at 5.40%
  • Monetary Policy stance remains “Accommodative – As long as it is necessary to revive growth, while ensuring that inflation remains within target”.
  • CPI inflation projected at 5.1-4.7% for H2:FY20 and 4-3.8% for H1:FY21, with risks evenly balanced.
  • GDP growth forecast reduced to 5% from 6.1% in FY 19-20, and in the range of 4.9-5.5% for H2:2019-20 and 5.9-6.3% for H1:2020-21 with risks evenly balanced.
  • Liquidity to be Positive.

Inflation:

  • CPI increased sharply to 4.6% in October, propelled by surge in food prices.

Factors shaping inflation path- 

  • Upsurge in prices of Vegetables likely to continue. However, RBI expects pick-up in arrivals from the late Kharif season and imports by government should soften food inflation.
  • Incipient price pressures seen in other food items such as milk, pulses and sugar are likely to be sustained.
  • Both 3-month and 1-year ahead inflation expectations of household have risen.
  • Domestic demand has slowed down, which is being reflected by softening of Core inflation.
  • Increase in telecom tariffs can have some impact on core inflation.
  • Crude oil prices are expected to remain range bound barring any disruption due to geo-political tensions

Liquidity

  • Liquidity in the system was in surplus in October-November 2019 despite expansion of currency in circulation due to festive demand.
  • Reflecting easy liquidity conditions, the weighted average call rate (WACR) traded below the policy repo rate (on an average) by 8 bps in October and by 10 bps in November.

Current Account Deficit and Forex

  • Trade deficit narrowed during September-October 2019.Imports contracted faster than exports.
  • On the financing side, net FDI rose to US$ 20.9 bn in H1:2019-20 from US$ 17 bn a year ago.
  • India’s foreign exchange reserves were at US$ 451.7 billion on December 3, 2019 – an increase of US$ 38.8 billion over end-March 2019.

Domestic Growth outlook cut to 5%

  • Growth in GDP moderated to 4.5% in Q2:2019-20, extending a sequential deceleration to the 6th consecutive quarter.
  • Real GDP growth for 2019-20 is revised downwards from 6.1% in the October policy to 5% – in the range of 4.9-5.5% in H2 and in the range of 5.9-6.3% for H1:2020-21 with risks evenly balanced.

Factors that will influence growth

  • Various high frequency indicators suggest that domestic demand conditions have remained weak.
  • RBI expects several measures initiated by the Government and monetary easing undertaken since February 2019 to revive sentiment and spur demand.
  • The business expectations index of the Reserve Bank’s industrial outlook survey shows marginal pickup in business sentiments in Q4.
  • Quick resolution of global trade tensions.
  • Further slowdown in global economic activity and geo-political tensions

Assessment of Global Growth

  • Since the meeting of the MPC in October 2019, global economic activity has remained subdued, though some signs of resilience are becoming visible.
  • GDP growth in the US picked up in Q3, in Euro area GDP growth remained stable. Japanese economy lost momentum in Q3 while economic activity in the UK accelerated.
  • Among Emerging economies growth in China, South Africa, India decelerated in Q3 whereas growth in Russia and Brazil accelerated.
  • Crude oil prices have remained range bound.
  • Gold prices traded sideways before falling in early November as a revival of risk appetite eased safe haven demand.

All members of the MPC voted in favour of the decision.

Other Key Announcement

  • Draft circular on exposure limits and priority sector lending by primary urban cooperative banks to be released soon
  • Urban cooperative banks with assets of Rs 500 Crs and above to be bought under the Central Repository of Information on Large Credits (CRILC)
  • Facilitation of setting up a self-regulatory body towards development of the secondary market loans

Debt Market View  

  • With growth faltering to 4.5% in the last quarter, it was widely expected that RBI will cut rate in this monetary policy, in absence of that bond markets reacted negatively with Benchmark 10-year paper gaining 14 bps.
  • RBI in its commentary has indicated that economic activity has weakened further and the output gap, which is the difference between actual output and potential output, remains negative and RBI will “Wait and watch” effect of monetary and fiscal measures already taken.  
  • High Real rates continue to make debt an attractive asset class
  • We suggest products having maturity close to investment horizon having highest credit quality and lowest expense for investors having less than 1-year time horizon.
  • For a 3-year investor, we recommend allocation in 1-5-year average maturity segment with high credit quality portfolios mainly focused on accrual. The high-quality PSU and corporate bond spread over G-Sec is attractive

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