Nifty recovered on FMO clarification about LTCGT tinkering rumor

RBI minutes show RBI has opted for a tactical pause on 6th April, not pivot; RBI may hike again on 8th June if Fed goes for a +25 bps hike each in May and June

India’s benchmark stock index Nifty made a multi-day low around 17553.95 Friday (21^st April) on the muted report card by tech major Infy and TCS, coupled with a market rumor/BBG report that the government is preparing an overhaul of its direct tax laws, including potential increases in capital gains taxes for top income earners, to help PM Modi reduce widening income inequality. But on Friday, the Finance Ministry sources said that there is no ‘discussion’ on capital gains tax, calling media reports 'baseless'. Subsequently, Nifty got some boost (technical short covering) and closed the week around 17624.05, still down -1.14%.

On Friday, SGX Nifty closed around 17680 against the Nifty closing level of 17651; on Monday SGX Nifty outperformed slightly Dow Future on better than expected report card by RIL, ICICI Bank and RBI grants special relief to HDFC bank on priority sector lending, while merging with parent HDFC. RBI has granted HDFC Bank three years to meet the priority sector lending requirements, once the HDFC book is merged into it. But as this news was also in the expected line and thus overall move of index heavy-weight HDFC banks was quite limited.

On Monday, pharma stocks dragged Nifty after Sun Pharma halts shipments from its Mohali manufacturing facility to the U.S. as a result of a US FDA inspection report. The US FDA in its letter titled Consent decree correspondence/non-compliance letter has asked Sun Pharma to take certain corrective actions at the Mohali facility before releasing final product batches into the US. These actions include retaining an independent Current Good Manufacturing Practice (GMP) expert to conduct batch certifications.

On Monday, Nifty was boosted by ICICI Bank, HDFC Bank, HDFC, AXIS Bank, SBIN, HDFC Life, and RIL, while dragged by Maruti, Sun Pharma, DRL, CIPLA, Divis lab, and Indusind Bank (subdued report card). Overall, India’s Dalal Street was buoyed by banks & financials, realty, techs, FMCG, infra, metals, and energy, while undercut by media, pharma, and automobile stocks.

On 20^th April, RBI released minutes of the meeting from 6-8^th June’23:

Highlights of the statement by Bhide (external MPC member):

·         The Second Advance Estimates (SAE) of the National Income for FY 2022-23 released by the National Statistical Office have retained the overall YOY growth of GDP at constant prices at 7 percent as provided in the First Advance Estimates (FAE) published on January 6, 2023. However, the Provisional Estimates have been replaced by the First Revised Estimates (FRE) for 2021-22 as the base, and the estimated GDP for 2022-23 is now actually higher by 1.3 percent in the SAE than in FAE

·         Private Final Consumption Expenditure, Gross Fixed Investment expenditure and exports of goods and services growth rates in FY 2022-23 have exceeded the growth rate of overall GDP. Slower growth of Government Final Consumption expenditure and higher imports has offset the higher pace of growth of other demand components

·         While the overall GDP growth reflects the resilience of the economy, a large part of this strength is contributed by the sharp increase in the first quarter of the year, a reflection of the rebound from the sharp COVID-19 impact of Q1 FY 2020-21. The YOY growth rate of GDP in Q1: 2022-23 is now placed at 13.2 percent and the growth in the subsequent two quarters at 6.3 and 4.4 percent

·         At the sectoral level, the growth drivers are the contact intensive Trade, Hotels, Transport, Communication, and Services related to Broadcasting; Electricity, Water Supply, and Other utilities; and Construction, which have registered higher YOY growth rates of Gross Value Added compared to the overall GVA growth rate of 6.6 percent for FY 2022-23. The growth rate of the GVA of Manufacturing in FY 2022-23 is less than 1 percent. The growth performance, therefore, points to both uneven growth across production sectors and subdued growth in the more recent quarters of FY 2022-23

·         The weak global economic environment is marked by decelerating demand and uncertainty in the financial markets and energy markets. Some of the weakening demand conditions are due to the monetary policy tightening in the major advanced economies and the slower pace of growth in China. The financial market uncertainty is due to the slowing global growth, monetary policy actions to bring down high inflation rates, and the continued year-long Ukraine war impacting a range of markets including energy

·         These conditions are expected to prevail at least until the inflation rates moderate significantly Both IMF and the World Bank have projected World Output YOY growth rates of less than 3 percent in 2023 and marginally above 3 percent in 2024. The drag on India’s exports - particularly goods exports - due to these adverse global demand conditions is, therefore, expected to prevail in FY 2023-24

·         Several factors are in play in determining the domestic output growth conditions in the short term. The dynamics of high-frequency indicators point to a continuation of the present growth momentum. For example, the PMI for manufacturing and Services in March has continued to reflect an expansionary phase, although both are below their recent peaks. The GST collections and Railway freight traffic indicator show moderation in YOY growth in Q3: FY 2022-23 and the recent months of January-February 2023. Non-food credit growth, however, continued expansion at double-digit rates. The sales growth data for the corporate sector indicates price rise is an important driver of revenue growth in Q3: FY 2022-23

·         The business outlook sentiments show a mixed picture. RBI’s survey of enterprises conducted during January-March 2023 points to a moderation of its Business Expectations index for the manufacturing sector firms in Q1: FY 2023-24, although the Business Assessment Index for the prevailing conditions moved up in Q4: FY 2022-23

·         Both indices indicate an expansion of economic activities. Expectations of the overall business situation indicate rising optimism through Q1: FY 2023-24 to Q3: 2023-24 in the case of enterprises in the services and infrastructure sectors. Improvement in profit margins is expected by a markedly smaller proportion of manufacturing enterprises in Q1: FY 2023-24 compared to Q4: FY 2022-23 than the enterprises in services and infrastructure

·         An increase in selling prices appears to be necessary to drive improvement in profit margin. The survey of Consumer Confidence for March 2023 points to expectations of improved conditions for employment over the expectations held in the previous round of the survey, with a marginal decline in sentiments on general economic conditions and household income. In all the three indicators of perceptions of the economy, the one-year ahead situation is seen to be substantially superior to the present

·         The estimates of GDP growth (YOY), for FY: 2023-24 provided by a number of agencies in the period from January 2023 onwards, have been around 6 percent. The RBI’s Survey of Professional Forecasters conducted in March 2023 provides a median forecast of 6.0 percent for 2023-24

·         Taking into account the growth trends and factors influencing growth along with an assumption of a normal monsoon for 2023 the GDP growth for FY 2023-24 is projected at 6.5 percent with a quarterly break up of Q1 at 7.8 percent, Q2 at 6.2 percent, Q3 at 6.1 percent and Q4 at 5.9 percent

·         The key concern on the growth front in the immediate future is the drag caused by the weak external demand conditions. The impact of any adverse weather conditions on Indian agriculture provides additional downside risk to the growth trajectory

·         The headline Consumer price index rose by 6.5 and 6.4 percent in January and February 2023, respectively, breaching the upper limit of the tolerance band of the policy target of 4% inflation, after two months of below 6 percent inflation rate in November and December 2022. The key drivers of this high level of overall inflation rate in the recent two months were food items, particularly, cereals, milk and products, spices, and ‘prepared meals, snacks, and sweets

·         However, the inflation rate of the category comprising items excluding food and fuel, and light has also remained at or above 6 percent in the first two months of the present calendar year. Among the components of the core inflation which exclude food and fuel items, the price rise was well above 6 percent in the case of Clothing & Footwear, Household Goods & Services, Health, and Personal care & effects. Fuel & light has also been at close to a double-digit inflation rate in the first 11 months of FY 2022-23. A positive feature of the overall inflation trend is a decline in the month-to-month momentum, decelerating in February 2023. This development needs to be watched as the seasonal patterns may begin to reverse this pattern

·         The combined impact of decelerating international commodity prices, and significant monetary policy rate increases since May 2022 leading to higher bank deposit and lending rates is yet to translate into inflation rates below the upper tolerance band of the target in a sustained manner. There are significant downside risks to output growth momentum and gains from price-led revenues for the firms may be limited

·         While policy rate increases were effected from May 2022 to February 2023, the cumulative impact of these policy actions is yet to be realized. The recent Inflation Expectations Survey of Households by the RBI points to expectations of a reduction in the inflation rate 3-months ahead and one year ahead. The survey of firms by the Indian Institute of Management Ahmedabad points to a reduction in the one-year ahead expected business inflation based on a cost-based Business Inflation Index in February 2023 compared to January 2023. The survey also finds a marginal increase in the one-year ahead expectations of CPI inflation in February 2023 as compared to the expectations in December 2022, with expectations of YOY inflation rates in both rounds below 5 percent

·         The forecast for FY 2023-24 points to a reduction in inflation rate below the upper tolerance band of 6 percent with Q1 at 5.1 percent, Q2, and Q3 at 5.4 percent, Q4 at 5.2 percent and an annual average rate of 5.2 percent. The decline in projected inflation rates is also supported by the base effect of a high inflation rate in FY 2022-23

·         While these projections point to a path toward achieving the inflation target in the medium term, there are upside risks associated with these projections. The weather uncertainty affecting key agricultural prices globally and in the domestic markets, higher fuel and energy prices due to the supply disruptions resulting from geo-political conflicts and policies may lead to spikes in inflation rate and reversal of these shocks also may not be quick. In this context, it is important to assess the extent of the impact of monetary policy actions on the inflation rate, besides the other developments

·         Taking into account the projected patterns of growth and inflation for FY 2023-24, the risks attached to these projections, and a need to watch the cumulative impact of the monetary policy actions so far, I believe that a pause in the policy rates is appropriate in this meeting, without any commitments on the subsequent actions except that aligning the inflation rate with the target will remain a policy priority

·         Accordingly, I vote: (a) to keep the policy repo rate unchanged at 6.50 percent, and (b) to remain focused on the withdrawal of accommodation to ensure that inflation progressively aligns with the target, while supporting growth

Highlights of a statement by Goyal (external MPC member):

·         The global slowdown is turning out to be less severe than expected but there are signs of a slowing in both growth and inflation suggesting central banks' (CBs) tightening is adequate and lagged effects will bring about the required further fall in inflation. But as financial stress materialized in some advanced economies (AEs), as was to be expected with sharp tightening following sustained excess liquidity, the major CBs had to continue to tighten to demonstrate the absence of financial dominance

·         Fortunately, India had financial deleveraging prior to the pandemic, much stronger and more broad-based regulation and supervision, as well as an ongoing focus on corporate governance, so its financial sector has outperformed under puri-shocks. Continued regulatory vigilance is essential, but it is not necessary to demonstrate independence from financial dominance here. Instead, India’s better policies and buffers make it possible to demonstrate independence from AE CBs and their weaknesses. Inflation here is also different. It is relatively close to the target—excess demand due to over-stimulus or second-round effects due to a tight labor market is not driving it

·         Although growth is resilient, there are signs of a slowdown in some high-frequency data. Softening non-oil non-gold imports point to weakness in domestic demand; slowing exports are affecting manufacturing; rising loan rates are reducing demand for low-income housing

·         A 2012 RBI working paper found monetary policy impacts output with a lag of 2-3 quarters and inflation with a lag of 3-4 quarters with the impact persisting for 8-10 quarters. The interest rate channel accounted for about half of the total impact of monetary shocks on output growth and about one-third of the total impact on inflation

·         Its (interest rate hike) effect on output was 2-3 times greater than that on inflation. Exchange rate changes had an insignificant impact on output growth, but a non-negligible impact on inflation. Many time series estimations before and since then had a similar pattern of results. A recent IGIDR M.Phil. on monetary transmission, using current data, also analyzed GDP components and found monetary policy had the largest impact on investment through falling equity prices

·         By October 2022 the repo rate had risen to a material level (5.9%) with liquidity also tightening and spreads rising for many short-term market instruments. And we see some growth softening two quarters later. The lagged effects of the rate rise are just beginning and may continue to play out over the next few months. Those on inflation will follow

·         But the estimations above do not include the expectations channel of monetary policy transmission. To the extent, policy rates rise with inflation and clear communication on the inflation target anchors inflation expectations, and there is evidence for this, the interest rate channel does not have to carry the entire burden of adjustment

·         Inflation will fall faster and the growth sacrifice required to reach the inflation target is lower. This is more so if supply-side action is also reducing inflation. Such policy is part of the BCCR approach—a balanced, countercyclical policy with good coordination across fiscal and monetary policy and continuing reform, which has helped make India a bright spot in a gloomy global macroeconomic scene

·         Inflation is expected to come down over the year. There is the base effect but momentum is also slowing in some consumer goods. The RBI’s enterprise surveys show firms expect inputs costs and selling prices to moderate. The exchange rate is stable or strengthening. The weightage issue that raised cereal prices sharply in the past 2 months is expected to have a reverse effect as market prices fall

·         Since the inflation forecast for FY24 is 5.2% with Q4 at 5.2%, a repo rate of 6.5% implies the real policy rate is greater than one. It has already tightened enough to progressively bring inflation towards the target of 4%, with other complementary policies barring major new shocks. A further rise in real interest rates is best avoided at present since high real rates can trigger a non-linear switch to a low growth path.

·         There is no logic for overshooting policy rates and then cutting in a country such as India where the largest impact of the interest rate is on growth, the relation between expected rupee depreciation and interest rates is weak, and many tools are available to reduce excess volatility of the exchange rate and have been successfully used, the current account deficit has reduced and its financing is no longer an issue. Moreover, the exchange rate is not directly included in the mandate of the MPC

·         In view of these arguments, I vote for a pause. But because of erratic weather and continuing global uncertainties, and until it is clear that inflation is well on the path to reaching the target, it is necessary to emphasize that this may not be the end of the rate hikes. So I also vote for withdrawal of accommodation as the stance. But this stance is now concerning the repo rate, so it is consistent with the injection of durable liquidity if shocks are so large that LAF instruments prove inadequate. Major CBs have allowed their balance sheets to expand as required for other reasons, while at the same time raising repo rates for monetary policy purposes

Highlights of the statement by Varma (external MPC member):

·         Two inflationary risks have come to the fore since the February meeting

·         The first risk emanates from the announcement of an output cut by OPEC+ during the weekend just before the MPC meeting. Crude oil promptly reversed the entire price decline of the preceding weeks and settled slightly above the levels prevailing at the February meeting. The output cut by itself is not worrying as it could simply represent an attempt by OPEC+ to match supply to sluggish demand in a slowing global economy. It would become a matter of concern only if it signals a structural change in the geopolitical alignment of the major oil-producing countries. So far, the crude oil market has been relaxed about this development with the futures curve continuing to slope downward. Nevertheless, the MPC needs to keep a careful watch on this evolving situation. If crude were to creep toward the triple-digit mark, there might be a need for a monetary response

·         The second risk relates to the monsoon. It is only around mid-April that scientists can provide monsoon forecasts with some degree of confidence, and the forecast accuracy improves towards the end of May. In this meeting, therefore, the MPC has no choice but to operate under the default assumption of a normal monsoon

·         However, in recent weeks, there has been increasing concern about some unfavorable oceanographic patterns that could impact the monsoon this year. A deficient monsoon would likely create inflationary pressures that would need to be counteracted with monetary policy measures. We will however have to wait till May or even early June to have reasonable clarity on this matter

·         On the growth front, early warning signs of a possible slowdown are visible to a greater extent than in February. In the current situation of high inflation, monetary policy does not have the luxury of responding to these growth headwinds. It is almost axiomatic that monetary action can cool inflation only by suppressing demand. However, policymakers must be vigilant against overshooting the terminal policy rate, thereby slowing the economy to a greater extent than what is needed to glide inflation to the target

·         The balance of risks has, in my view, shifted slightly towards inflation since the February meeting, but the best estimate currently is that the 315 basis points of effective tightening of the overnight interest rate (from a reverse repo rate of 3.35% to a repo rate of 6.50%) would be quite sufficient to bring inflation under control. Therefore, I vote in favor of keeping the policy rate unchanged in this meeting

·         Turning to the stance, I must confess that I fail to comprehend its meaning. My colleagues in the MPC assure me that the language is crystal clear to market participants and others. It may well be that I am the only person who finds it hard to understand. But I am unable to reconcile the language of the stance with the simple fact that no further “withdrawal of accommodation” remains to be done since the repo rate has already been raised to the 6.50% level prevailing at the beginning of the previous easing cycle in February 2019. It is of course possible to undertake further tightening, but that would not constitute a “withdrawal of accommodation” by any stretch of the imagination

·         One interpretation that has been offered is that the real interest rate measured using the most recent published inflation rate needs to rise further. This is doubtless true, but monetary policy should not be conducted by looking at the rearview mirror. The real interest rate must be measured against the projected inflation rate 3-4 quarters ahead, and, as things stand right now, there is very little ground to argue for a further rise in the correctly measured real interest rate

·         Moreover, even if a flawed definition of the real interest rate is accepted, the projected rise in this real rate would not require any action by the MPC; it would happen as a mechanical result of a falling inflation rate and an unchanged policy rate. And the projected fall in the inflation rate would be a consequence of what the MPC has already done, and not what it will do in the coming months

·         I cannot put my name to a stance that I do not even understand. At the same time, it is clear that the war against inflation has not yet been won, and it would be premature to declare an end to this tightening cycle. There is a need for heightened vigilance in the face of the fresh risks that I highlighted earlier in my statement. For these reasons, I refrain from dissenting on this part of the resolution and confine myself to expressing reservations about it

Highlights of the statement by Ranjan (external MPC member):

·         Let me begin from where I ended my last minutes of February 2023: “Going ahead, assessment of the impact of the cumulative rate hikes will become important especially in view of higher policy transmission in a primarily bank-based economy”. Consistent with that assessment and in the wake of new information that has since become available, I vote for a pause in today’s meeting

·         First, the crosscurrents of uncertainty continue to sweep across the globe. The challenges faced in recent times have raised important questions about the conduct of monetary policy under heightened uncertainty. The gradient of unpredictability in the economy runs deeper from quantifiable risks in the near term to unknowable Knightian uncertainty (Knight, 1921) over longer time horizons

·         Faced with these uncertainties, the ‘science’ of monetary policy – which is premised on a forward-looking and rule-based approach (Clarida, Gali, and Gertler, 1999) – must be blended with the ‘art’ of monetary policy, which is data-centric and based on the prudent judgment of policymakers. A virtuous guide to policymaking in such times is to tread cautiously (Orphanides, 2003)

·         As the then President of the ECB, Mario Draghi, put it, “In a dark room you move with tiny steps.” I believe we are currently poised appropriately at this juncture to pause in the backdrop of front-loaded rate actions even as monetary policy remains finely calibrated to the domestic and global situation

·         Second, there are some clear positive signals visible on the domestic front. Inflationary expectations are gradually easing, domestic growth momentum remains robust, and India, so far, is insulated from the global banking crisis

·         Third, it is important to keep in mind that there was considerable noise in the high inflation readings of January-February 2023 attributed to the statistical effect concerning the treatment of cereals

·         Fourth, though inflation at present remains above the comfort zone, there are reasons for optimism going forward. The heat wave of February and the unseasonal rains of March are expected to have only some localized impacts, raising the prospects of an overall good Rabi harvest. High-frequency food price indicators for March are already indicating a decline in wheat prices

·         Furthermore, international food prices have registered a decline of around 19 percent in February 2023 from its peak in March 2022, which could help lower costs for critical import-dependent food items through appropriate trade policies

·         Global metals and industrial input prices have also seen significant correction from their March 2022 peak levels which could likely result in softening of core inflation pressures over the year, though in a protracted manner

·         The key factors that could adversely affect the inflation trajectory over 2023-24 are climate-related structural demand-supply imbalance in important food items such as milk and volatile crude oil prices. At present, there is considerable uncertainty on how these events will play out over the year; hence, a wait-and-watch approach may be a better strategy

·         Fifth, though core CPI inflation (excluding food and fuel) continued to remain sticky and elevated, there are signs of a modest softening in February, which was also observed across various other exclusion as well as trimmed mean measures of underlying inflation. The month-over-month (MoM) seasonally adjusted annualized rate (SAAR) of core CPI has also slowed down from around 6 percent in December 2022 to around 5 percent in February 2023

·         Moreover, headline CPI diffusion indices for February, though indicating an expansion of prices, also showed that for the first time since July 2022, a significant majority of the CPI basket registered price increases of less than 6 percent (SAAR).

·         Diffusion indices for a core CPI which also excludes petrol, diesel, gold, and silver have also indicated price expansion at rates lower than 6 percent (SAAR) since November 2022. Softer household inflation expectations revealed by RBI’s latest survey provide comfort that second-order effects on inflation will also remain subdued

·         Sixth, new incoming information suggests that the growth outlook for 2023-24 has improved with investment revival likely to become more entrenched along with a lesser drag from external demand. The government’s sustained focus on infrastructure spending will also crowd in private investment and support growth

·         Seventh, during the last year of monetary policy normalization, the operating target of monetary policy is up by around 320 basis points, the effects of which are yet to be fully transmitted to domestic macroeconomic aggregates. Against the backdrop of increasing depth and liquidity in financial markets, the long and variable lags of monetary policy may have shortened in recent years, supported by complementary tools of better communication, forward guidance, and balance sheet policies. The shift to an external benchmark lending rate (EBLR) is an additional factor that has hastened the speed of transmission. Under these conditions, monetary policy tightening needs to be calibrated judiciously

·         Eighth, real policy rates whether ex-ante or ex-post, whether based on headline or core inflation, are now positive and expected to increase further given our projected inflation path

·         Notwithstanding this, let me state that this is a ‘wait and watch’ pause. It is neither a ‘premature’ pause nor a ‘permanent’ one. Not ‘premature’ because we have already increased the policy rate by 250 bps in about a year with frontloaded rate action of about 190 bps during the first 5 months. Not ‘permanent’ as any durable decline in inflation towards the target of 4 percent is still distant. Therefore, I vote to continue with our stance of withdrawal of accommodation. The inherent strength and resilience of the Indian economy with inflation expected to moderate going forward inspires confidence in our actions

Highlights of the statement by Patra (Deputy RBI Governor):

·         The momentum of economic activity in India is broadening, and slack is being pulled in. The underlying price build-up indicates that demand pressures remain strong, especially for contact-intensive services. Hence, inflation remains elevated and generalized; and, as I stated at the time of the MPC’s February 2023 meeting, it is the biggest risk to the outlook for the Indian economy

·         The lessons of experience and empirical evidence show incontrovertibly that inflation ruling above 6 percent – as it has done through 2022-23 – is inimically harmful to growth. This is already showing up in the deceleration of private consumption spending and the moderation in sales growth in the corporate sector which, in turn, is hamstringing new investment

·         In my view, the baseline projection for real GDP growth at 6.5 percent for 2023-24 will benefit from an upside from budgeted capital expenditure; this advantage should not, however, be frittered away by inflation. By current reckoning, the future path of inflation is vulnerable to several supply shocks. The MPC must accordingly remain on high alert and ready to act pre-emptively if risks intensify to both sides of its commitment: price stability and growth

·         Monetary policy must persevere with the withdrawal of accommodation. The stance of policy has to remain disinflationary and unwavering in its resolve to align inflation with the target of 4 percent. It is prudent to anticipate future shocks to the inflation trajectory while evaluating the cumulative tightening of monetary policy so far. Bank credit growth is already reflecting the pass-through of past monetary policy actions, although it remains robust relative to the pace of underlying activity in the economy, and financial conditions more generally are supportive of growth

·         While I vote for a pause in this meeting, an ongoing assessment of the macroeconomic outlook should inform a preparedness to re-calibrate monetary policy towards a more restrictive stance with consistent actions, should risks to the inflation trajectory materialize and impede its alignment with the target. The process of getting inflation back to target could turn out to be gradual and uneven, but the mission of monetary policy is to shepherd this process through potential bumps while containing second-round effects and anchoring inflation expectations

Highlights of the statement by Das (RBI Governor):

·         Since the last meeting of the MPC in February 2023, the global economic environment has changed dramatically. While issues of geopolitics and high inflation continue to impact the outlook, the emergence of banking sector turmoil on both sides of the Atlantic and the sudden announcement of oil production cut by the OPEC+ countries have rendered the global outlook even more uncertain. Global inflation is easing but at a tardy pace. Central banks face a runway that is becoming narrower and bumpy for soft-landing

·         Against this background, inflation in India during January-February 2023 exceeded the upper tolerance limit of 6 percent after a transitory respite during November-December 2022. Going forward, the inflation projection for 2023-24 is indicating moderation to an average of 5.2 percent. Both domestic as well as global factors are expected to bring about this disinflation. There is better optimism for the Rabi harvest despite the recent unseasonal rains. This could significantly reduce price pressures on Rabi food crops, particularly wheat

·         Further, prices of edible oils have been moderated. The softening of global commodity prices from their peak levels a year ago is translating into lower input cost pressures for manufactured goods and services. These could result in some softening of core inflation going forward. The overall situation, nonetheless, remains dynamic and fast evolving. Clarity on monsoon would be available in the coming months. Milk prices may remain firm in the lean summer season on tight demand-supply balance and high fodder costs. The rising uncertainty in international crude oil prices also warrants close monitoring

·         In parallel, domestic growth impulses remained buoyant in Q4 2022-23. Looking ahead, the thrust on infrastructure spending by the government would support investment activity. The drag from net external demand is moderating. Overall, the broadening of economic activity and the strength of the external sector have allowed us room to remain steadfastly focused on inflation

·         We have consecutively raised the policy repo rate by 250 basis points since May 2022 when we started the current rate hike cycle. Together with the introduction of the Standing Deposit Facility (SDF) at a rate 40 basis points above the fixed rate reverse repo rate, the effective rate hike has been 290 basis points. In tandem, our market operations have reined in surplus liquidity in an orderly manner. These actions have collectively transmitted into the weighted average call money rate (WACR), the operating target of monetary policy, along with other short-term rates

·         The cumulative impact of our monetary policy actions over the last year is still unfolding and needs to be monitored closely. Inflation for 2023-24 is projected to soften, but the disinflation towards the target is likely to be slow and protracted. The projected inflation in Q4 2023-24 at 5.2 percent would still be well above the target. Therefore, at this juncture, we have to persevere with our focus on bringing about a durable moderation in inflation and at the same time give ourselves some time to monitor the impact of our past actions.

·         I am, therefore, of the view that we do a tactical pause in this meeting of the MPC. Accordingly, I vote for a pause in rate action and for remaining focused on the withdrawal of accommodation to ensure that inflation progressively aligns with the target, while supporting growth.

·         This is a tactical pause and not a pivot or a change in policy direction. We will continue to monitor all incoming information and undertake a forward-looking assessment of the evolving economic outlook and stand ready to act, should the situation so warrant. Our fight against inflation is far from over and we have to continue with our efforts to bring inflation closer to the target over the medium term

Conclusions:

RBI paused tactically on 6^th April as then the market was pricing also a Fed pause/pivot on 3^rd May amid subdued economic data, regional banking crisis, and the renewed concern of stagflation The RBI may want to maintain the present policy rate differential of 1.50%-2.50% with Fed, depending upon the actual core inflation differential. Thus RBI paused, but not pivoted or went for any change in policy stance drastically as RBI may want to see actual Fed rate action on 3^rd May and any guidance for the 14^th June FOMC meeting. But after various economic data on inflation, consumer spending, and the labor market coupled with hawkish talks by Fed, the market is now again expecting a Fed rate hike of +25 bps on 3^rd May and also on 14^th June.

Fed was already behind the inflation curve from early 2021 when the economy opens fully after the 2020 COVID disruption. Fed should have started to normalize its ultra-loose monetary policy in early 2021 rather than starting the process (telegraphing about QE ending and potential rate hikes) in late 2021. In the process, Fed created synchronized global inflation/stagflation as almost all major G20 central banks usually follow Fed policy action for currency (USD) and bond yield differential.

Now (till the banking crisis emerged in 2^nd week of Feb’23), seeing inflation out of control, both Fed and ECB were engaged in ultra-hawkish jawboning to tighten monetary/financial conditions, resulting in a rapid increase in bond yields and HTM (bond portfolio) loss of mid-size U.S. regional banks, who are not so much efficient to manage interest rate increase in an efficient/professional way.

Fed is itself now suffering from huge MTM loss (unrealized) as it’s offering trillions of dollars at higher reverse repo rates to banks; Big U.S. banks are major beneficiaries of higher reverse repo rates (risk-free return) from Fed. But small/mid-sized U.S. regional banks like SVB have a significant mismatch between asset and liability, resulting in the current failure.

Fed is now going to pause after one or two more hikes as it believes banks, especially smaller ones will tighten lending norms, which will eventually tighten financial conditions more and consumer demand thereby, helping lower inflation. For the last year, Fed was too occupied with jawboning to control the market and may not have focused adequately on bank supervision/regulation; especially for vulnerable small/mid-size U.S. regional banks. Here is also Fed was far behind the curve, nearly inviting another 2008-type GFC.

As the immediate concern of financial stability eases, Fed may go for their planned rate hikes in a calibrated manner to ensure price and financial stability as well as credibility. Fed may go for calibrated +25 bps rate hike on 3^rd May, and 14^th June for a terminal rate of 5.25-5.50% and then pause. Fed will ensure financial stability with liquidity tools and price stability with interest tools as unlike during 2008-10, core inflation is still substantially higher than the +2% targets.

As per Taylor’s rule, for the US: (Fed’s favorite)

Recommended policy rate (I) = A+B+(C+D)*(E-B) =0.00+2.00+ (0+0)*(5.5-2.00) =0+2+3.5=5.5%

Here for U.S. /Fed

A=desired real interest rate=0.00; B= inflation target =2.00; C= permissible factor from deviation of inflation target=0; D= permissible factor from deviation of output target from potential=0.00; E= average core inflation=5.5% (average of core PCE and CPI)

In a way, now May hike of +25 bps is almost certain for Fed while there is a question mark for June. But there will be no rate cuts at least till mid-2024 contrary to market expectations. After mid-2024, Fed may begin talking about rate cuts (just ahead of the Nov’24 U.S. Presidential election) to boost Wall Street (risk trade) and also to ensure lower bond yields to rescue U.S. regional banks and itself. Fed has to also ensure lower borrowing costs for the U.S. government as well as businesses and households.

India’s RBI may also hike +0.25% on 8^th June if Fed goes for two consecutive hikes on 3^rd May and 14^th June. Unlike RBI, Fed does not attempt to surprise the market and is sharing/providing appropriate forward guidance through not only official Fed communications but also regular Fed talks. Thus by 31^st May (the Fed blackout period begins), the market as well as RBI should know with almost 100% certainty whether Fed will go for another +25 bps rate hike on 14^th June. If Fed refrains from any rate hike on 14^th June and only goes for a +25 bps rate hike on 3^rd May, then RBI may not go for any hike on 8^th June and may continue to be on pause until core inflation does not spike abnormally. Going by the trend between RBI and Fed rate action since Jan’22, RBI may go for a +25 bps rate hike every alternate meeting if Fed goes for similar +25 bps rate hikes in every meeting (in a hypothetical scenario).

Early April, the MOSPI data shows India’s annual (y/y) consumer inflation (CPI) in India eased to 5.66% in March, the lowest since Dec ’21 from 6.44% in February, and slightly below the market consensus of 5.8%. The inflation moved back to below the RBI's upper tolerance limit of 6%, due to a slowdown in food costs (4.79% vs 5.95% in February), mainly vegetables (-8.51%), oils and fats (-7.86%) and meat (-1.42%), which partially offset a rise in cost for cereals (15.27%), milk (9.3%) and spices (18.21%).

Also, the cost of sugar and confectionery went up by 1%. A slowdown was also seen in cost for fuel and light (8.91% vs 9.9%), miscellaneous (5.77% vs 6.12%), clothing and footwear (8.18% vs 8.8%), and pan, tobacco, and intoxicants (2.99% vs 3.22%). On the other hand, prices rose faster for housing (4.96% vs 4.83%). On a sequential (m/m) basis, India’s CPI increased by +0.23% in March from +0.17% in February. RBI needs at least +0.30% sequential CPI consistently for the +4.00% inflation target.

In March, India’s core inflation also eased to +5.80% (y/y) from +6.10% sequentially and almost in line with market expectations of +5.90%. Overall, if we consider the 3M rolling average, core CPI is now around +6.00%, while headline CPI is +4.80%.

India’s core CPI continues to be sticky around +6.00% since Jan’21 and consistently above +4.0% targets even before COVID. Like Fed, RBI is also far behind the inflation curve for a long. Thus RBI wants to ensure a real positive rate, by around +100 bps (restrictive levels) wrt at least average core inflation. RBI continued to tighten to keep interest rate/bond yield differential and also USDINR under control, which will also control imported inflation and manage overall price stability. RBI has to tighten in a calibrated way to bring inflation down by curtailing demand; i.e. slowing down the economy to some extent without causing an all-out recession for a safe and soft landing.

In a recent speech, RBI Governor Das blamed higher inflation on geopolitical tensions and economic sanctions, which need to be properly resolved for stability in global macros. As a Central Bank, RBI’s job is to hike rates well into the restrictive zone to curtail demand, so that it can match with currently constrained supply, resulting in lower inflation. RBI as-well-as Fed has done their jobs almost fully and may hike once/twice more in May/June and a long pause thereof at least till Dec’23 before any plan to cut (if core inflation indeed goes down towards target zones).

In the last year, RBI hiked the +250 bps repo rate and core CPI declined -100 bps from around +7.0% to +6.0% on average; Indian 10Y bond yield also moved up around +100 bps from around +6.0% to 7.0%. At this run rate, if RBI goes for a pause around the 6.50-6.75% repo rate, the core CPI may further fall to around +5.0% by Mar’24 and +4.0% target by Mar’25.

In India, a higher interest rate may not contain core inflation alone for various reasons, like the government’s indirect control over domestic fuel (petrol & diesel) as per political compulsion. In the last year, global crude oil prices tumbled from around $117 to $67 and India is buying a major portion of Russian oil significantly cheaper than the market price. But the Indian government has not allowed OMCs to reduce retail prices of petrol & diesel apparently to ensure that OMCs remain profitable (after adjusting any previous losses). The government is also collecting huge tax revenue from fossil fuel, which is helping in deficit spending (led by traditional infra and social infra spending). The Government may allow OMCs to reduce prices ahead of any major state election and also the early 2024 general election.

In any way, the government has not passed the benefit of lower crude oil prices into the retail price of petrol & diesel, India’s core inflation remains elevated and sticky around +6.0% for most of 2022 and even in 2023. Also in India, there is significant wage inflation for not only government employees (through DA) but also for private employees, especially corporates; i.e. wage increase is higher than productivity gain for most cases, especially for government employees. This in turn is also resulting in higher goods and service prices, creating a cycle of higher inflation.

Also, India’s fiscal stimulus; i.e. deficit spending, and grants by the government are creating inflation directly/indirectly (through systematic corruption route). India’s almost 30% population, equivalent to almost the U.S. population may belong to the high middle class/rich category due to good salary income (often more than productivity levels), corruption /unaccounted money, vibrant capital/real estate market, and growing startups and digital ecosystem (You tubers). Most of these categories of the high middle-class population are rich in cash and generally don’t need to borrow heavily for consumption or investment.

As per Taylor’s rule, for India:

Recommended policy rate (I) = A+B+(C+D)*(E-B) =0.50+4+ (1.5+0)*(6-4) =0.50+4+1.5*2=0.50+4+3=7.50%

Here for RBI/India:

A=desired real interest rate=0.50; B= inflation target =4; C= permissible factor from deviation of inflation target=1.5 (6/4); D= permissible factor from deviation of output target from potential=0; E= average core CPI=6

If Fed continues to hike even after June’23 to +6.00% by Sep’23 (in case U.S. core inflation surges more), then RBI also has to hike (under still elevated/sticky core inflation). Thus RBI may like to keep the repo rate at 7.00% to 7.50% in CY23, depending upon the Fed rate action; as USD is the reserve/global currency, every major Central Bank has to follow Fed action to maintain bond yield/currency and policy differential (whatever may be the narrative) to control imported inflation.

Thus RBI again reminded the market on the 6^th April MPC statement about the real rate of interest of +4.50% in Feb’2019 (when RBI starts the pre-COVID rate cut cycle to support economic growth); in Feb’2019, RBI repo rate was +6.50%, while headline CPI was around +2.00%, but core CPI was around +5.25%. Thus the actual real rate of interest about core CPI was around +2.25% in Feb’2019 against Rajan’ (former RBI Governor) preference of around +1.50% (1.00-2.00%).

On 17^th April, RBI Governor said in an interview at a G20 event about RBI’s plan to pivot when inflation reaches the near target (+4%):

“During the COVID times, our inflation target was 4% with a tolerance band of 2% on either side, i.e., 2 to 6%, which is tolerable. During the COVID times, because we had to provide support to the economy, the Monetary Policy Committee of the Reserve Bank of India decided to tolerate slightly higher inflation. But then the time came when it exceeded 6%, which was the problem.

The moment, it exceeded that, by that time COVID was behind us. We acted in time, and in about six successive meetings, we increased our policy rate by about 250 basis points. Now the inflation, in the latest print, has come below 6.0%. The MPC, in the last meeting, decided that we have already done a 250 bps rate increase over the last year. Let us assess it, and the MPC decided to take a pause, but not a pivot. We have paused to assess the full play out of the impact of all the actions that we have taken over the last year and then take a call in the next MPC meeting for future action depending on the incoming data, and the outlook. We are now basically pausing, not pivoting.”

Bottom line:

Under Governor Das and Modi admin, RBI may prefer to keep the real rate of interest around 0.50-1.50%; as India’s core CPI is now averaging around +6.00%, RBI may keep the terminal rate between 6.50%-7.50% in the coming days depending upon the actual Fed rate action and domestic core inflation trajectory. As there are a series of state elections in 2023 and also a general election by May’24, RBI may keep the terminal repo rate around 6.50-6.75% if Fed does not go beyond +5.50% and India’s core CPI stays below +6.50%.

Technical View: SGX Nifty Future (17850 CMP)

Looking ahead, whatever may be the narrative, technically SGX Nifty Future now has to sustain over 18000 for a further rally to 18075/18175*-18400/18675 and 18850*/19050 in the coming days (Bullish side). On the flip side, sustaining below 17950, SGX Nifty Future may again fall to 17775/17700-17550/17400 and 17300/17000-16800/16650* in the coming days.

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