Expect MPC to remain vigilant on potential upside risks
The Monetary Policy Committee (MPC) meeting on April 4-5 is unlikely to throw any surprises. A status quo on repo rate at 6 per cent, reiteration of a neutral stance, and a balanced tone of the policy statement is widely expected. This is so, as (i) the macro environment has not changed significantly since the last policy meeting in February, and (ii) clarity on potential risks to inflation or growth as highlighted in the previous policy meeting are still awaited.
For instance, even though we expect the MPC to significantly undershoot its consumer price index (CPI) inflation projection by 50-60 basis points in fourth quarter of FY18, the MPC projected CPI inflation of around
5.1 per cent. We expect it to retain its FY19 CPI forecast of 4.5 per cent. This is so, as clarity on the potential upside risks to FY19 inflation, as highlighted by the MPC in the previous policy meeting, are still awaited.
Here, the impending government decision on procurement price rise will be keenly watched out. The government has announced that it will increase procurement prices to ensure 1.5x returns to farmers on summer crops from FY19. As accurate risk assessment on inflation and fiscal deficit is difficult at this juncture due to lack of details, we expect the MPC to remain vigilant on potential upside risks. Currently, we expect the MPC to stay on hold on repo rate for FY19, especially given the nascent stage of growth recovery.
We believe growth recovery in FY19 will be more modest than widely expected and the MPC is likely to be eventually disappointed on its FY19 gross value added projection of 7.2 per cent. Recent developments in the banking sector amidst still stabilising policy reforms of 2017 (read GST and the Insolvency and Bankruptcy Code) have contained improvement in confidence. Thus, similar to the previous policy meeting, we expect the MPC to remain mindful of nascent stage of growth recovery.
A wait-and-watch stance by the MPC will also support the government bonds market, which has recently rallied on the back of several positive policy initiatives taken by the government and the Reserve Bank of India. A hawkish stance otherwise can reverse the recent improvement in rates market sentiment.
Any announcement on an increase in the investment quota for foreign investors in Indian government bonds (IGBs) however, can trigger some action in the rates market. According to the current guidelines, foreign portfolio investors (FPIs) can invest up to 5 per cent of outstanding IGBs by March 31, 2018. While FPIs currently hold 4.5 per cent of IGB markets, clarity on a refreshed road map is keenly awaited by investors.
A wait-andwatch stance by the MPC will also support the government bonds market