As its global peers gear up for policy normalization, RBI sticks to maintain an accommodative stance. The Reserve Bank of India (RBI) maintained the status quo on interest rates, committing to boost the pace of recovery through appropriate policy support.
With Fed sounding more hawkish than expected, RBI’s super-dovishness in its December 8 policy has taken many economists by surprise. Many are of the opinion that RBI’s focus, for now, is on the tricky task of sponging away liquidity, leaving just enough to keep the economy ticking without adding to inflationary pressures.
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RBI’s Governor, Shaktikanta Das, who had called for a coordinated response to the pandemic last year, this month cited risks from Omicron for continuing support to the economy despite calls from a colleague for abandoning the accommodative bias.
“Relative to other central banks, it might seem RBI has neither started hiking nor talking about the possibility of rate increases,” said Sahay, head of South Asia research at Standard Chartered. “We need to consider that such countries did not have strict lockdowns like India or have much higher inflation relative to their historical trend.”
Lower interest rates in India and higher rates globally would result in the flight of foreign capital from the domestic market for higher returns.
“This means that despite rising inflation, the monetary policy committee (MPC) has no plans to raise key policy rates. Because now is the time for growth,” says Kshitij Purohit, Lead Commodities and Currencies at CapitalVia Global Research Limited.
The Bank of England has hiked its rates to 0.25 percent from 0.1 percent. Among EMs, Mexico was the other central bank to stun the markets with a 50-bps hike against an expected 25 bps. The Fed and the BoE both point to the rising cost of employment or tight labor market conditions.
Although the RBI kept its growth projection unchanged at 9.5% for the current fiscal year ending March, it is forecasting a slower expansion of 7.8% next year. It sees inflation peaking in the January-March period before stabilizing in the next two quarters at 5% — within its 2%-6% target band — allowing it room to support growth.
A huge buffer of nearly $650 billion in foreign exchange reserves, gives policymakers the space to insulate an emerging economy like India from the volatility that comes with almost every Fed tightening cycle.
The central bank has been keen to address the huge liquidity overhang in the banking system, which HSBC Holdings Inc. recently described as the “elephant in the room.” Liquidity is likely to remain elevated around the 6 trillion-rupee ($80 billion) mark over fiscal 2023 and 2024, according to projections by the bank, down from around 10 trillion rupees earlier this month.
The RBI is migrating the excess cash that banks park with it from the fixed-rate reverse repo to the auction-based variable rates, over which it has better control. Up till now, banks have parked 954 billion rupees with RBI at the fixed rate of 3.35% on Monday, with the central bank planning to migrate most of its liquidity absorption to an auction-based mechanism from January.
As part of that migration, the RBI will aim to mop up 7.5 trillion rupees via 14-day reverse repo on Dec. 31. It shocked markets last week by introducing a shorter 3-day variable reverse repo, further pushing up short-end rates.
This could lead to a hike in the reverse repo rate in February, according to Bloomberg Economics’s Abhishek Gupta.
“Higher money market rates and an expected hike in the reverse repo rate ahead should be seen as a function of liquidity trending down from the current record surplus, rather than a move by the central bank to tighten policy,” he wrote in a note.
