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Challenging macro milieu that RBI may well shrug off

Challenging macro milieu that RBI may well shrug off

Challenging macro milieu that RBI may well shrug off
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By Latha Venkatesh  Feb 9, 2022 9:43:26 PM IST (Published)

A few hours to go for the Reserve Bank of India (RBI) policy and here's my guess. The macro-environment is undoubtedly challenging with RBI having to manage a much higher than expected government borrowing next year in a context of possibly rising oil prices. But RBI has the option to just shrug them off, since this is February! It's a challenge of managing the borrowing will start only in April with the new fiscal year, so it has the luxury to make the February 10 policy an uneventful one and preserve its ammunition for the April policy.

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With this backdrop, here’s what to watch in the policy
1. Does RBI hike the reverse repo rate or the rate at which it absorbs excess cash from the market. Currently, that rate is at 3.35 percent and RBI is expected to raise it by 15,20, 25 or 40 basis points. It's possible the market won’t be much excited irrespective of the extent of the hike, because the central bank has already raised the cost of 7-14 day money to 3.9 percent and as a result, all short term t-bill and commercial paper rates have risen by half a percentage point in the past six months. Only a small 1-2 trillion rupees going into the fixed-rate reverse repo and the call rate will be impacted by the hike. Even if RBI doesn’t hike, the market may not move a muscle, since everyone is convinced RBI will raise these rates next policy. So we watch for this number but it won’t materially move rates.
2. The next thing to watch is what comfort does the RBI gives the bond market regarding the government's borrowing programme. As indicated, the banks and the bond market have been hit by a government borrowing of Rs 14.3 trillion next year, without the guarantee that Indian bonds will make it to global indexes very soon, thus making foreign funds potential buyers. This double whammy in the Union Budget sent the 10-year bond yield to nearly 7 percent last week, though the government cancelling a bond sale has helped yields fall to 6.8 percent. Dealers expect RBI will allow banks to hold more bonds without marking them to market - that is rise the held-to-maturity limit to 24 percent of banks deposits from 22 percent currently. RBI may, in addition, reassure the market it has more tools in the kitty like operation twist- buy long bonds from the market and sell short tenor ones. It can even say buying bonds outright in open market operations is an option, though this may sound contradicting its stated intent to squeeze out liquidity from the market. But contrariwise, it may not promise all of this. It can wait to promise more in April when the borrowing begins. A helpful sounding RBI will push yields lower a bit, but even if some of these tools aren’t mentioned, bond dealers will assume they will come in April. So again, the reaction in the bond market may be limited, whatever the announcement.
3. Will the RBI change its stance from accommodative to neutral? No one expects this, since the economy is still believed to be just healing. Also, the RBI may be wary of changing stance till a quarter of the borrowing is over. So no point agonising over a stance change now.
4. An interesting, if academic, part of the policy will be the RBI's growth forecast for next year. To be sure it will cut the current year's GDP to 9.2 percent from the previous 9.5 percent. But most important will be it's growth forecasts for next year. The current forecasts stand at 17.2 percent for Q1 and 7.8 percent for Q2 FY23. Will RBI lower these? Also, does it give a full year FY23 forecast? And will that forecast be above 8 percent? If yes, markets will be cheered. But RBI may remain conservative and pitch growth at 7.5-8 percent.
5. More crucial will be RBI's inflation forecast, which stands at 5 percent for Q1 and Q2 of FY23. RBI has to raise it given the surge in crude prices. RBI may even give a full-year forecast, but may keep it closer to 5 percent. It's parsing of crude impact and global inflation will be important for overall macro expectations, but nothing market moving here.
6. RBI doesn't normally speak about the rupee, but press persons may ask it to comment on the current account deficit, which has risen to over 3 percent in Q3. Don’t expect fireworks, here.
7. Finally, the governor has gone on record to say RBI will telegraph its moves in advance to the market. Will RBI give any timetable at all about rate normalisation? Repo rate hikes? Very unlikely.
Maybe a dot plot, a la FOMC, is an institution whose time has come in India. But that discussion for a later day. For now, an uneventful policy may be in store, despite eventful macros and markets.
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