Even as the stock market zoomed to a three-month high on expectations of a rate cut, the Reserve Bank of India dashed these hopes saying it has very limited space to lower interest rates any further.
On the eve of the announcement of its annual policy for 2013-14, the central bank, in its Macroeconomic and Monetary Developments document, attributed the limited space to macro-financial risks and both headline and consumer inflation remaining high. Macro-financial risks refer to the macroeconomic shocks that leave the banking system facing bad loans, funding risk, and the ripple effects of inter-bank spillover.
What all this perhaps means is that despite GDP growth slowing to 5 per cent in FY2013, the central bank may not lower the repo rate (the interest rate at which banks borrow short-term funds from the central bank) or will at best make a token cut.
The falling demand and the problems in the mining sector have pulled down industrial growth, sapping the economy.
The RBI’s key worry is the continuing inflationary pressure from fuel price adjustments, the inadequate supply response, including that of food (which remains a sore point), and sustained high wages.
Market expectation
HSBC Purchase Managers Index showing that manufacturing growth rate in April fell to its lowest level in four years raised market-players hopes of not just a repo rate-cut but also of the cash reserve ratio (the slice of deposits that banks have to park with the RBI) by 25 basis points each.
In anticipation, the benchmark BSE Sensex rose 232 points to 19,736.
Rate-sensitive sectors such as banking, realty, and information technology notched smart gains. The Nifty breached the 6,000 level after three months, and ruled above that mark for most of the day. It, however, closed at 5,999.35, gaining 1.17 per cent over Wednesday's close.
Though the central bank cut the repo rate by 25 basis points in its mid-quarter monetary policy review in March, banks did not cut their lending rates.
According to the RBI document, headline inflation in 2013-14 could ease up with the expected dip in commodity prices, but may rise if diesel and coal prices are pegged up and passed on.
Another worry is the rising current account deficit because of the rising imports of crude oil and gold.
Slow-paced recovery
The RBI is, however, confident about economy, saying the growth recovery process should kick-in later in the current financial year. But the pace of recovery is likely to remain slow, it said.
Resolving issues that hamper investments in infrastructure and a public investment stimulus rebalanced by revenue-spending cuts hold the key to the economy’s revival, it added.
The RBI’s survey of outside professional forecasters shows anticipation of a modest recovery with growth in FY14 at 6 per cent from 5 per cent in FY2013 and average inflation to moderate to 6.5 per cent from 7.3 per cent.
ramkumar.k@thehindu.co.in