RBI ups rates 25 bps, says no more hikes

Mumbai: The Reserve Bank of India (RBI) raised interest rates on Tuesday for the 13th time since early 2010 but gave a strong signal it may be finished with its current tightening cycle as India's economic growth slows and it expects high inflation to ease starting in December.

The RBI raised its policy lending rate, the repo rate, by 25 basis points to 8.5 percent.

It also revised down its growth forecast for the current fiscal year ending in March to 7.6 percent from 8 percent with a downward bias earlier, while sticking with its forecast that headline wholesale price index inflation (WPI) will ease to 7 percent at the end of the fiscal year.

In a major policy decision, RBI Governor Duvvuri Subbarao also deregulated savings bank deposit rates with immediate effect.

Earlier in May, RBI had raised the savings deposit rates to 4 per cent from 3.5 per cent.

Giving banks the freedom to fix the savings accounts interest rate, RBI said banks will have to offer uniform rate on deposits of up to Rs one lakh. On higher amounts, they can give differential rates to depositors.

The Reserve Bank has also proposed to notify banning prepayment penalty on floating rate home loans, as recommended by the Banking Ombudsman recently.

As regards the micro finance sector, RBI has given the go-ahead for creating a new category called NBFC-MFIs (NBFC-Micro finance Institutions).

"Changing the policy stance when inflation is still far above the tolerance level entails risks to the credibility of the Reserve Bank's commitment to low and stable inflation," the policy document said, even as it admits that growth momentum has slowed down.

The likelihood of a rate move at its December review is relatively low, the central bank said in a statement.

Beyond that, if the inflation trajectory conforms to projections, further rate hikes may not be warranted, it said.

Investors took comfort in the prospect that India's steady upward rise in interest rates may be at an end.

The benchmark 10-year bond yield fell as much as 7 basis points to 8.69 percent after the policy statement, while the 5-year swap rate fell 10 bps to 8.30 percent. The main BSE index extended gains to as much as 1.1 percent before dropping.

Clear direction from the RBI is now in place, that they are not looking at any more increase, Indranil Pan, chief economist at Kotak Mahindra Bank.

The RBI under Governor Duvvuri Subbarao has been one of the most aggressive central banks anywhere and has continued to take its fight to inflation even as its global counterparts have refocused monetary policy towards promoting growth.

Subbarao maintained his hawkish view on Tuesday.

While the impact of past monetary actions is still unfolding, it is necessary to persist with the anti-inflationary stance, he said in the policy statement.

The central bank warned that medium term inflationary risks in Asia's third-largest economy remain high due to structural imbalances in agriculture, infrastructure bottlenecks, and India's fiscal deficit.

In the absence of progress on these, over the medium term, the monetary policy stance will have to take into account the risks of inflation surging in response to even a moderate growth recovery, it said.

Despite continued policy tightening, inflation in India remains sticky, with the headline wholesale price index up 9.72 percent annually through September, its 10th straight month above 9 percent and highest among the BRIC grouping of economies that includes Brazil, Russia and China.

Inflation in India is driven in large part by high food and global commodity prices as well as fiscal policies that spur demand, all of which is beyond the scope of monetary policy, prompting some critics to urge the RBI to relent in its tightening.

Meanwhile, India's economy grew at 7.7 percent in the June quarter, its weakest in six quarters, while industrial output growth was below 5 percent in July and August.

In last week's poll, 17 economists had expected the central bank to raise rates on Tuesday but 13 had expected it to pause, with most respondents expecting rates to remain unchanged after Tuesday for the remainder of the fiscal year through March.

It has also permitted commercial banks to open branches in tier II cities without prior approval of RBI.

COMMENTARY:

ASHUTOSH DATAR, ECONOMIST, IIFL, MUMBAI:

It looks like we have now reached peak of the interest rate cycle and once inflation starts decelerating, we can expect the policy stance to shift towards addressing growth concerns.

If things pan out as detailed by the RBI, we can expect a rate cut somewhere in the June quarter.

RUPA REGE NITSURE, CHIEF ECONOMIST, BANK OF BARODA, MUMBAI:

I think interest rates have peaked now. Transmission is not happening, credit demand has dried up. So by raising interest rates, they are not going to achieve anything.

If RBI had raised earlier in September by 50 basis points then it would have more effective in ensuring policy transmission.

ANUBHUTI SAHAY, ECONOMIST, STANDARD CHARTERED BANK, MUMBAI:

While the repo rate increase is in-line with expectation the statement is dovish as the central bank has put a relatively low probability to another rate action in December (provided inflation does not deviate from their expected trajectory).

Also the FY12 GDP growth projection has been revised downward from 8.0 percent to 7.6 percent. While RBI has still stated containing inflation and anchoring inflationary expectations as important, the focus is now shifting to stimulating investment/growth. Thus after a period of pause in interest rate, reversal in the interest rate cycle in 2012 will not surprise us.

SHAKTI SATAPATHY, ECONOMIST, A.K. CAPITAL, MUMBAI:

The current rate hike is justified on account of inflation risk still persistent in the economy, coupled with depreciating rupee and fiscal slippage. Further the savings bank deregulation may prompt a rise in deposit growth leading to a shift from consumption demand towards investment demand in the mid to long term.

RADHIKA RAO, ECONOMIST, FORECAST PTE, SINGAPORE:

Onshore financial markets are rejoicing clear indications by the RBI that the end to the rate tightening cycle is in sight, as base effects prod the WPI prints lower at the turn of the year. Prima facie, post-policy comments still carry hawkish hues in our opinion as the central bank cites risks to credibility on any change in policy trajectory when inflation is still high.

It is patently clear that RBI gives more weightage to domestic economic conditions and in light of today's comments, odds for a rate hike in December still exists, especially if rupee depreciates further -- which in effect could unwind RBI's anti-inflationary stance. Deregulating savings is a step in the right direction and should benefit end-consumers.

INDRANIL PAN, CHIEF ECONOMIST, KOTAK MAHINDRA BANK, MUMBAI:

Clear direction from the RBI is now in place, that they are not looking at any more increase.

A 25 basis points hike and a clear signal of a pause is a more certain policy, definitely more dovish with a clear direction on inflation. Unless inflation surprises for some reason or the other on the higher side and the dynamics on inflation changes, we are likely to see an extended pause for a minimum of 9 to 12 months.

ARUN SINGH, SENIOR ECONOMIST, DUN & BRADSTREET, MUMBAI:

Inflation has taken a bad shape for the economy. And if the central bank would have paused right now, there could have been a bubble formation somewhere in the economy.

The RBI knows this and, therefore, taming inflation will remain its top priority. Hence, another 25 basis point rate hike in December should not be a surprise.

MARKET REACTION

* India's 10-year benchmark bond yield fell 6 basis points to 8.70 percent immediately after the central bank's policy decision.

* The benchmark 5-year swap rate fell 7 basis points to 7.33 percent, while the 1-year swap rate dropped 2 bps to 8.17 percent.

* The main share index extended its rise to 1 percent, before turning negative.

* The partially convertible rupee was at 49.7000 per dollar from 49.6950.

BACKGROUND:

- Annual inflation barely budged in September, staying above 9 percent for the tenth straight month. The wholesale price index rose 9.72 percent, on the back of a jump in fuel and power prices.

- The food price index rose 10.60 percent and the fuel price index climbed 15.17 percent in the year to Oct. 8, compared with 9.32 percent and 15.10 percent, respectively, in the previous week.

- Industrial output grew 4.1 percent in August, over the previous year, lagging a poll forecast for 5 percent growth and was only a slight improvement on the revised 3.84 percent growth clocked in July.

- Manufacturing growth nearly stalled in September, turning in its weakest showing since March 2009 on slowing output and order growth. The HSBC Markit India Manufacturing PMI fell more than two points to 50.4 from 52.6.

- The service sector contracted in September for the first time in more than two years, with the seasonally adjusted HSBC Markit Business Activity Index , based on a survey of around 400 firms, plunging to 49.8.

- An industry body cut its sales growth target for cars in this fiscal year to 2-4 percent, a sharp drop from the 30 percent growth clocked in the previous year.

- Gross domestic product slipped to 7.7 percent in the three months through June, its weakest pace in six quarters.

INDUSTRY VIEW

Following are views of industry officials to the review:

H.M. BHARUKA, MANAGING DIRECTOR, KANSAI NEROLAC

We are confident that no further rate hikes will take place but worries about growth remain. The industry has been expecting a slowdown in the economy but RBI was not acknowledging it. Finally they have acknowledged there is a slowdown by revising down the growth forecast.

For the paints industry, the constant rate increases have severely affected demand as they have impacted the auto and housing industry. So we are hoping, if the rate rise cycle comes to an end with this, then demand can show signs of revival in a minimum of 6-10 months.

ANIL GUPTA, CHAIRMAN AND MANAGING DIRECTOR, KEI INDUSTRIES

It's a difficult scenario, our margins are getting hurt because of higher interest costs. On the other hand, our consumers like real estate firms are in a tight spot too. This is hurting demand for our products. Also, containing inflation by raising interest rates seems to be having no impact as the inflation is largely because of supply side issues. 

D.S. KULKARNI, CMD, DS KULKARNI DEVELOPERS

Every industry runs on cashflows, and by raising rates, the RBI is curbing this flow. Thankfully, the spending power of Indians is not dead like that of the people in the U.S. and the banks are still strong. But this development will slow GDP growth ... and by no means curb the rising inflation.

VENU SRINIVASAN, CHAIRMAN, TVS MOTOR CO LTD

The positive side is the language used by the RBI, indicating they will look at moderating. I think the government and the Reserve Bank are getting concerned that we can get into a period of high inflation and low growth. Still, at this point in time they could have put off the increase in my view, because the economy is likely to grow just above 7 percent.

The two wheeler industry has grown by 19 percent in the first six months and will probably grow 12-14 percent in the next six months. We are likely to end up with a 15 percent growth this year.

--- (Earlier comments)

N. SHRIDHAR, GROUP DIRECTOR, BUSINESS STRATEGY & FINANCE, DB REALTY

The corporate margins would be under pressure given the increase in interest rates leading to a compression on spends in capex. For home buyers, this would result in an increase in outflow of EMI (equated monthly installments), which will lead to a compression in demand in new home purchases. 

SUNIL SIKKA, PRESIDENT, HAVELLS INDIA

So far, they have not been able to check inflation that remains unabated. They must look at some other means instead of just keep raising the repo rate. We all know it's a demand dampener. I hope it is the last one.

PABAN K KATAKY, DIRECTOR, EXIDE INDUSTRIES

The industry is already reeling under high interest rates. Things will get even worse after this. Funding costs will rise as interest rates will have a spiralling effect on everything. In such a situation, the demand becomes lower, so your production goes down and costs go up. There will be pressure on profitability. Things are very difficult for the industry.

The government seems to be thinking that only by increasing the rates they can bring down the inflation.

B. HARIHARAN, GROUP FINANCE DIRECTOR, BALLARPUR INDUSTRIES

This might be the last rate hike. But corporates are unlikely to take any new investment decisions at these levels. They would rather wait for the rates to soften.

PRAVIN MALKANI, MANAGING DIRECTOR, PATEL REALTY INDIA, A UNIT OF PATEL ENGINEERING

This is definitely going to impact the sector. They are choking out whatever breath is left in the market. We don't see the logic behind the hike. The direct impact of the hike would be on the EMI (equated monthly installments) of buyers, so new home buyers would hesitate to enter the market. This could likely lead to a dip in sales.

Source: Financial Express