Having expected the RBI to raise the repo rate by 25 basis points following the hardening of inflationary expectations, the pause in the mid-quarter policy review came as a surprise. Systemic liquidity has eased considerably on account of the unsterilised dollar inflows through the swap windows for banks as well as measures such as the refinance facility for SIDBI.

However, liquidity may tighten to an extent in the next quarter, in view of the anticipated caution in spending by the Government, some improvement in credit off-take in the busy season and the commencement of the reverse leg of the swap by oil marketing companies.

Nevertheless, a reiteration of the RBI’s stance regarding ensuring adequate credit flow should provide comfort to the productive sectors.

The correction in vegetable prices is expected to dampen food inflation in December 2013, which would ease further in the subsequent months based on the expectation of a favourable rabi harvest. However, core-WPI may continue to display a gradual rise, reflecting the uptrend in prices in export-oriented sectors and some lagged resetting of prices to offset the rupee depreciation.

Elevated outlook Moreover, core CPI is expected to remain fairly elevated. With the RBI’s stance indicating its readiness to act swiftly, including on off-policy dates if warranted, in the event that the expected softening of food inflation does not materialise, there is a high likelihood of repo rate hike in January 2014.

Setting aside sector-specific issues (sugar and gems and jewellery) and an adverse base effect (telephones) that dragged down growth of consumer goods in October 2013, the healthy performance of other items such as tractors and two-wheelers suggests that rural demand would support growth in the second half of FY14. Additionally, exports growth remains healthy, notwithstanding some easing in November 2013. However, investment activity is likely to remain sluggish in the coming quarter, reflecting a combination of factors such as weak investor confidence, high leverage levels of developers, asset quality concerns of banks and the upcoming elections. Overall, GDP growth is expected to display a moderate uptick in the second half of FY14 compared to the 4.6 per cent expansion in the first half.

Concerns eased A revival in exports, restrictions on gold imports and the inflows garnered through the swap windows for banks have sharply eased concerns regarding India’s balance of payments situation, and the ability to withstand shocks that may arise once the US Federal Reserve tapers bond purchases.

Nevertheless, domestic political uncertainties and delayed economic recovery may result in intermittent FII outflows and increase volatility of the rupee-dollar exchange rate. Moreover, concerns may resurface if restrictions on gold imports are lifted.

Further, a weaker rupee would exacerbate fiscal stress related to under-recoveries on sale of various fuels. In addition to the growth-inflation dynamics, the impact of global and domestic developments on the twin deficits will remain a key factor in determining the RBI’s future course of action.

(The author is MD and CEO, ICRA Ltd.)

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