RBI raises repo rate by 50 bps to tame prices; pegs FY23 GDP growth at 7.2%

The six-member Monetary Policy Committee of the Reserve Bank of India (RBI) on Wednesday unanimously decided to increase the policy repo rate by 50 basis points (bps) to 4.9 per cent while raising the inflation forecast by 100 bps to 6.7 per cent for this fiscal year, giving rise to expectations of further monetary tightening in the coming months.

The second hike in the repo rate in a month will lead to an increase in lending rates, causing borrowers to feel the pinch of higher equated monthly instalments. The RBI kept its growth forecast unchanged at 7.2 per cent for FY23.

RBI Governor Shaktikanta Das said during the post-policy interaction with the media: “There is a stance and our stance is withdrawing accommodation … we are now focusing on that. But in terms of rates, we are still below the pre-pandemic level. In terms of liquidity, surplus liquidity in the market is higher than the pre-pandemic level. In that sense the stance remained accommodative.”

The repo rate before the pandemic came was 5.15 per cent.

The stance remained “accommodative” since the start of the pandemic because the central bank’s focus was on growth. The Russian invasion of Ukraine forced it to focus on inflation in the April review of the monetary policy.

“Liquidity withdrawal will be calibrated and measured. And we will ensure adequate liquidity to meet the credit requirements of banks,” Das said. 

As of December 2021, a little over 39 per cent of banking-system loans were linked to an external benchmark, which is mostly the repo rate. Around 58.2 per cent of home loans are linked to external benchmarks.

About 53 per cent of the loans of the banking system are linked to the marginal cost of fund-based lending rate (MCLR). Most banks have increased their MCLR after the 40-bp repo rate hike in May.

While lending rates will go up immediately, an increase in fixed-deposit rates may take time because the banking system is flush with liquidity. Das said he expected deposit rates too to increase.

He said inflationary pressures had intensified further. “75 per cent of the increase in the inflation projection compared to what we had made in April is attributed to food inflation. Primarily food inflation is linked to external factors, namely the war in Europe,” Das said.

The central bank now projects the CPI (consumer price index) inflation rate above the upper tolerance threshold of 6 per cent till the October-December quarter.

Inflation for the last quarter of FY23 is seen at 5.8 per cent. Das said risks to inflation were from high commodity prices, revisions in electricity tariffs in many states, high domestic poultry and animal feed costs, etc. He cited the recent spike in tomato prices.

All this is apart from elevated international crude oil prices -- the most important of all.

“The central bank seemed far more concerned about inflation, reflected in its upward revision in its inflation forecast by 100 bps to 6.7 per cent, and relatively sanguine on domestic growth impulses,” said Abheek Barua, chief economist, HDFC Bank.

Bond markets responded positively to the policy, proved by the rally at the shorter end. The 10-year benchmark government bond fell 8 bps after the rate hike came in line with expectations and there was no hike in the cash reserve ratio (CRR).

Economists are expecting aggressive hikes in the coming months.

“We retain our projection for the terminal repo rate at 6.25% by April 2023, with a 35bp rate hike in August, followed by 25bp rate hikes in the following four policy meetings. Risks are skewed towards more front-loaded hikes and higher terminal rates,” Nomura India said in a report.


 

Nomura also expects a 100-bp CRR hike in the second half of 2022.

On growth, the RBI sounded more confident. Das said capacity utilisation in the manufacturing sector increased further to 74.5 per cent in the January-March quarter from 72.4 per cent in the previous one.

“Capacity utilisation is likely to increase further in 2022-23. Investment activity is thus expected to strengthen, driven by rising capacity utilisation, the government’s capex push, and deleveraged corporate balance sheets. Improvement in investment activity is also reflected in pick-up in demand for bank credit and persisting growth in imports of capital goods,” Das said.

“Inflation must come down and economic recovery must continue,” Das said.