Rate cuts are unlikely in the immediate future with a neutral stance on policy and effective liquidity management

Rate cuts are unlikely in the immediate future with a neutral stance on policy and effective liquidity management

Given the relatively constrained system liquidity (despite recent easing) and the ongoing reduction of core inflation amid robust growth, the policy tone's loosening was not unexpected.

By a vote of 5 to 1, the MPC maintained the repo rate at 6.50%. in keeping with the 5-1 decision that maintained the "housing withdrawal" position.

The Monetary Policy Committee (MPC) meeting this week was held against the background of a benign global narrative, limited liquidity, and a decline in core inflation despite robust GDP. Despite short-term food-related uncertainties, economy is improving, and inflation trends are comfortable. The policy tone is optimistic with regard to addressing external financing requirements and promoting internal mobility. The attitude on housing withdrawal remained unchanged.

The Reserve Bank of India's (RBI) statement that "markets are leading central banks" supports the idea that domestic policy adjustments would control the global narrative as markets continue to argue about the timing and scope of rate reduction globally. A job will be assigned. It is doubtful that the RBI would reverse any policies in CY24 before the US Fed, even if it will continue to be cautious on macro and financial stability.

Generally neutral policy tone

As anticipated, the MPC voted 5-1 to maintain the repo rate at 6.50%, which is a vote in favor of maintaining the "return to housing" policy.

The Reserve said that past rate rises are still having an impact on the economy and that vigorous disinflationary policy should be maintained to guarantee full rate transmission and calm inflation expectations. It went on to say that disinflation is the hardest milestone to reach, and as a result, the present situation should be understood in the context of imperfect transmission and inflation that is currently over 4%. Because of the stable domestic environment and the RBI's prediction that inflation would average 4.5%, the growth rate in FY 2012 will likely stay around 7%.

Given the relatively constrained system liquidity (despite recent relaxation) and the ongoing decrease in core inflation despite robust growth, the policy tone softening was not unexpected (see "Three key questions ahead of the MPC meeting").

With the fast shift in global risk appetite and the decline in volatility of foreign exchange and other asset classes, concerns over financial stability have become less pressing. The current policy highlights the need of exercising caution once again, focusing on strengthening the macroeconomic dynamics both domestically and internationally as well as the sound balance sheets of financial organizations that are not banks. The MPC meeting's conclusion is mostly indifferent to bonds.

Don't worry about the system's liquidity.

Because this position is endogenous to the policy rate, it is also related to liquidity management. With the deficit averaging Rs 2.1 trillion in January 2024, system liquidity has tightened since September 2023 and has significantly worsened since mid-December 2023 (above 1% of NDTL). This decline has been attributed, among other things, to a high government cash surplus (October 3.7 trillion by 2023) as well as high currency in circulation (CIC).

The RBI has maintained that there is a sustainable liquidity surplus since financial markets have varied degrees of response to the changing liquidity circumstances and have taken government surplus into account. Additionally, he said that the official shift in position should be seen in light of more general policy objectives.

One may wait for an attitude shift.

In theory, the accommodating posture is already in doubt since the call money rate has been hugging the MSF over the last four months (apart from the last few days). In order to maintain overnight rates above the repo rate and provide liquidity management flexibility, the RBI is currently holding VRRR (variable rate reverse repo) auctions. Nevertheless, the liquidity imbalance has shrunk to less than Rs 1.5 trillion in recent weeks. indicates what they would like. two-way adjustment of fine tuning. The MPC said that in order to maintain a stable money market, it might use a suitable combination of tools to regulate both durable and frictional liquidity.

The Reserve Bank of India (RBI) is likely to maintain its overnight rates more in line with the repo rate than the Marginal Standing Facility (MSF/SDF) rate. A portion of this will happen on its own as forecasts indicate that the system liquidity shortfall will probably reduce from 1.1% of NDTL in January 2024 to 0.5-0.8% of NDTL (net demand and time liabilities) in the next months. was minus 2.2%.

Therefore, a shift in position may only occur after April 2024, at which point the RBI will have some leeway to comprehend and adapt to changing global dynamics without having to lower the CRR (Credit Reserve Ratio). seems to be. Open Market Operations (OMO) will provide short-term liquidity.

A function of global dynamics is policy change.

The market's belief in a lengthy runway for a gentle landing and a Goldilocks scenario in the US supports the shift in global risk appetite. Despite officially targeting inflation, RBI policy has been somewhat reliant on the Fed, particularly in the past two years. The RBI must, nonetheless, be adaptable to shifts in the larger story. As risk appetite has changed and risk assets have become less volatile, developing nations like India are now able to provide bigger risk premiums with relative ease.

Markets now predict a roughly 60% chance of the first Fed reduction by May 2024 (for a total of 117 bps cuts in CY 2024); moreover, domestically, there will be one cut in each of June and October 2024 (sorry, unclear). We take into account three factors: 1) economic flexibility; 2) it takes time to comprehend US inflation patterns; and 3) cheap financial circumstances that might lead to demand returning to ease any early steps towards easing by any major developed market (DM) central bank this year. Additionally, this should stop the RBI from lowering interest rates too fast, as it again alluded to this week.

As of right now, we do not believe that the Fed will lower interest rates before June 2024, with the RBI following suit somewhat later.