RBI Policy 05 December 2019
Monetary Policy Committee (MPC) unanimously
voted in favour of keeping the policy repo rate unchanged at 5.15%.
Further, it also voted in favour of maintaining an accommodative stance.
The reverse repo rate and Cash Reserve Ratio (CRR) remains unchanged at
4.90% and 4.0% respectively.
RBI revised its inflation forecast upward with new projected inflation
for H2FY20 being 4.7 – 5.1% and H1FY21 at 3.8-4.0% as against forecast
of 3.5%-3.7% and 3.6% in H2FY20 and Q1FY21 respectively in October
policy. The key reason for large revision was primarily because of sharp
rise in the vegetable prices on account of supply disruption due to
unseasonal rainfall. Further, strengthening in prices of items like
milk, pulses etc. along with rise in inflation expectations of
households also led to projections being revised upward. However, RBI
noted that government measures to improve
supply through imports are likely to soften the vegetable prices by
Q4FY20. Moreover, soft core inflation (CPI ex food & fuel) is likely
to remain weak given the favourable base effect and slowing domestic
demand. RBI expects CPI is likely to tread below 4% target by Q2 FY21.
RBI revised down its growth outlook substantially for FY20 to 5.0% from
6.1% estimated in October meeting (Aug19 estimates: 6.9%). GDP growth
forecast was revised to 4.9-5.5% for H2 FY20 and 5.9-6.3% for H1 FY21
(as against earlier estimates of 5.3% for Q2 FY20, 6.6%-7.2% for H2FY20
and 7.2% in Q1FY21). RBI noted that domestic economic activity has
deteriorated further and output gap remains negative as reflected in
lower capacity utilization. Seasonally adjusted capacity utilisation
worsened meaningfully to 69.8% in Q2FY20 from 74.6% in Q1FY20 and is
expected to remain muted in Q3FY20 as per
Industrial outlook survey. Slowdown has been broad based with both
manufacturing and services activity indicators showing signs of
weakness. Manufacturing remains particularly weak with industrial
production contracting and overall sentiments being negative.
In spite of sharp revision in growth forecast for FY20, RBI decided to
maintain the rate in view of the recent uptick in inflation. However, it
mentioned that there is still some monetary space for future rate cuts.
RBI will continue to monitor incoming data for more clarity on
inflation outlook and also impact of government actions on growth and
inflation. RBI deemed that high small savings rate and clarity on
government budget as important parameters for rate transmission and
future rate action.
Conclusion and Outlook
The MPC’s decision to maintain the policy rate was against the consensus
expectations of 25 bps rate cut. RBI’s maintaining “an accommodative
stance as long as it is necessary to revive growth, while ensuring that
inflation remains within the target” was in line with expectations.
Since Feb 2019, RBI has reduced the policy rate by 135 bps in aggregate,
though the transmission has been muted in bank lending rates. Given
that RBI is expecting inflation to be below target only after 6 months
and possibility of growth bottoming, any future rate action by RBI is
likely to be data dependent.
Gsec yields rose by around 15 bps on unanticipated pause by RBI and
dampening of hope of more rate cuts in near term. With regard to yields
at the longer end, as we have been highlighting, opposing forces are at
play. Easing stance of major global central banks, ample interbanking
liquidity, steepness of yield curve and weak credit growth favour lower
yields. On the other hand, risk of fiscal slippage, excess SLR
(Statutory Liquidity Ratio) investments within banking system, high near
term headline inflation, possible bottoming out of growth, etc. are
likely to impact yields adversely. In view
of the above, yields at the longer end of the curve are likely to trade
within a range.
Considering the aforesaid factors, in our assessment, the short to
medium end of the yield curve offers better risk adjusted returns.
Hence, we continue to recommend investment in short to medium duration
debt funds.
Sources:
Various publications
Disclaimer: The
information provided herein is based on publicly available information and
other sources believed to be reliable, but involve uncertainties that could
cause actual events to differ materially from those expressed or implied in
such statements. The document is given for general and information purpose and
is neither an investment advice nor an offer to sell nor a solicitation. While
due care has been exercised while preparing this document, we do not warrant
the completeness or accuracy of the information. We will not accept any
liability arising from the use of this material. The recipient of this material
should rely on their investigations and take their own professional advice.
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