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Informist, Tuesday, Jan. 28, 2025

 

NEW DELHI – The Reserve Bank of India's announcement of measures to boost liquidity in the banking system by around INR 1.5 trillion on Monday has increased expectations of a 25-basis-point rate cut at the Monetary Policy Committee's Feb. 5-7 meeting. However, economists believe the central bank will have to do more to ease the tight financial conditions.

 

"One of the main pushback to our Feb. 7 rate cut call is, with a persistent liquidity deficit, a rate cut now would be akin to a wasted bullet. By announcing these measures to address liquidity concerns, the RBI, in our view, is setting stage for monetary easing in the upcoming February policy meeting," Barclays economists, led by Aastha Gudwani, said in a note Tuesday.

 

Late Monday, the RBI said it will purchase government bonds worth INR 600 billion via open market operations in three tranches, hold a six-month dollar/rupee buy/sell swap auction for $5 billion on Friday, and a 56-day variable rate repo auction for INR 500 billion on Feb. 7. The central bank added that it will "continue to monitor evolving liquidity and market conditions and take measures as appropriate to ensure orderly liquidity conditions".

 

The RBI's actions come after it said on Jan. 15 that it will conduct overnight variable rate repo auctions on a daily basis until further notice. However, with the central bank having injected net INR 3.10 trillion into the banking system on Monday, economists think that Mint Street is not done yet.

 

Prior to the RBI's measures, the liquidity deficit was set to rise to INR 4.0 trillion-INR 4.5 trillion by the end of March, according to Madhavi Arora, chief economist at Emkay Global Financial Services. "With the aforementioned measures, the system liquidity deficit could improve to around INR 2.4 trillion by end-FY25... implying that possibly more measures may be announced if the RBI finds this tune of liquidity deficit uncomfortable for policy transmission," Arora said.

 

One measure that is now seen unlikely is another reduction in the Cash Reserve Ratio, with the RBI already having announced a 50-bps cut in December in two steps. According to Anubhuti Sahay, head of India Economic Research at Standard Chartered Bank, a similar cut is now not expected on Feb. 7. "By announcing an OMO calendar, we think the RBI has clearly indicated its preference for tools other than the CRR to inject durable liquidity... however, we think more bond purchases might still be needed before the fiscal year-end in March 2025 in case of large FX intervention," Sahay said.

 

Data released Friday showed the RBI bought gilts worth INR 101.75 billion in the secondary market in the week ended Jan. 17. That and the Jan. 15 announcement of continuous liquidity support through daily variable rate repo auctions came after the central bank held multiple meetings with market participants and was exhorted to ease financial conditions that had tightened sharply like the RBI itself had predicted while announcing the CRR cut in December.

 

Domestic liquidity conditions have deteriorated rapidly over the last couple of months following huge dollar sales by the RBI to defend the rupee's exchange rate. The central bank sold a record $51.11 billion in November to stem the rupee's fall. According to Standard Chartered Bank's Sahay, the decision to hold the dollar/rupee buy/sell swap auction "underlines the RBI's desire to neutralise the impact of any FX intervention on the liquidity deficit".

 

A jump in headline retail inflation to 6.21% in October and repeated warnings by former RBI governor Shaktikanta Das had cooled talks of an interest rate cut in February. However, growth slumping to a seven-quarter low of 5.4% in Jul-Sept seemingly put a spanner in the RBI's plans to wait for a durable decline in CPI inflation before cutting the repo rate. The MPC, which had loosened its stance to neutral, saw two of its members unsuccessfully vote for a rate cut in December. The repo rate has been left unchanged at 6.50% for two years.

 

Das' exit from the RBI and the entry of Sanjay Malhotra as his successor also led to a revival of rate cut talks, especially with the central bank taking concrete action to ease liquidity conditions, which is seen as a prerequisite to rate cuts so that banks pass on the reduction to borrowers. Inflation, which is seen cooling to 4.0% by the second quarter of 2025-26 (Apr-Mar), is not seen as an obstacle to a repo rate cut on Feb. 7.  End

 

US$1 = INR 86.53

 

Reported by Shubham Rana and Siddharth Upasani 

Edited by Namrata Rao

 

 

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