Once India gets over that hump in inflation early next year, the survey of economists suggested the RBI will trim the repo rate to 6.50 percent in the April-June quarter, where it was seen likely to remain until at least the end of 2016.
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But India’s economy, which is the fastest growing in the world at 7.4 per cent, is also wary of the effects of expected US Federal Reserve rate hikes later this month.
The Fed rate hike, she continued, would boost capital outflows from emerging economies to the U.S. and would put pressure on emerging market currencies.
Inflation based on the consumer price index rose to 5 percent in October, from 4.41 percent in September, mainly on the back of rising food prices. The growth projection for 2015-16 has accordingly been kept unchanged at 7.4 per cent with a mild downside bias.
“We will use the space for further accommodation, while keeping an eye on inflation”, said RBI Governor Raghuram Rajan.
“Inflation has turned up as anticipated, and is expected to rise further until December before plateauing”, Gov. Rajan wrote in a statement.
“Banks are now engaged in the process of cleaning up their balance sheets and as they clean them up, they will have more rooms for lending”.
After the RBI cut rates in January and March, it kept them unchanged in April, citing inflation concerns and a failure of most commercial banks to pass on lower loan rates to customers. To improve policy transmission, Rajan said the bank will shortly finalize the methodology for determining the base rate based on the marginal cost of funds and all banks will adopt the same. “Banks need to be ready to finance pick up in credit growth and RBI should ensure high level of NPAs do not constrain banks from financing higher growth”.
Banks have been saying the high small saving rates are hindering banks from reducing interest rates.
Rajan said that further rate cuts would be dependent on inflation and external developments.
RBI also said that the outlook for agriculture is subdued, in view of both rabi and kharif prospects being hit by monsoon vagaries.
“Since rate reduction cycle that began in January, less than half of the cumulative policy repo rate cut of 125 bps has been transmitted by banks”.
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“The RBI will keep a watch on the recent inflationary path and the likely impact of geo-political tension in Europe on crude prices”, said Shakti Satapathy, assistant vice president at AK Capital Services. This increase in inflation is hardly a surprise, as in the fourth bi-monthly policy statement the RBI had already indicated that it expects inflation to increase from September onwards due to the reversal of favorable base effects. But Nikkei PMI figures for November showed factory activity inching closer to contraction coming at a 25-month low.
