Rockstar Rajan – The Last Monetary Policy Review

By Sachit Modi

On August 9, 2016, Dr. Raghuram “Rockstar” Rajan, who is set to end his 3-year term on September 4, released his last monetary policy review. The RBI Governor, who has reduced the benchmark policy rate by 1.5% since January last year, decided to keep it static in his final review, owing to the inflationary trends. He also stated that, in order to achieve the Liquidity Neutrality goal, RBI will continue to pump funds into the market, as and when the need arises. This article gives few of the major highlights from the review.

The Bi-monthly Rates:

Repo Rate Reverse Repo Rate Cash Reserve Ratio Marginal Standing Facility Bank Rate Inflation Target Growth Forecast
6.5 % 6.0 % 4.0 % 7.0 % 7.0 % 5.0 % 7.6%

Inflation and Inflation Target

In June, the CPI-based retail inflation, driven by sharper-than-expected rise in the food prices (particularly vegetables and sugar), rose to 5.77 %, a 22-month high figure. Even though the market is expecting the food prices to increase further, the inflation target has been set by RBI at an optimist 5.0 % with an upside risk for Jan-2017. This has been kept in line with the RBI’s fixed target of bringing it down to 4.0 % in the next 5 years. The upper tolerance target of 5.0 % has been set by keeping in mind a strong expectation for a progressive monsoon and softening positions of oil and other commodities in the market. One thing to note here is that the inflationary trend is expected to be boosted by the contributions from the GST Bill and the 7th Pay Commission’s Housing Allowance. However, the governor is expecting the influence to be very minimal in the long-term.

Rate-cut Transmissions

The governor took a strong stance against the banks for passing on the rate cuts only modestly. Recently, the banks have been citing the upcoming $20 billion worth of Foreign Currency Non-Residents (FCNR) redemptions as the reason for the same. However, Dr. Rajan stated that RBI, with an efficient management plan and Open Market Operations (OMOs) to the tune of INR 80,500 crore, is well balanced to carry on the redemptions smoothly. This leaves the banks with no further reasons, ‘as of now’, to hold the cuts to themselves.

Conclusion

Overall, the RBI Governor’s valedictory policy was a hallmark of his term. This policy stands out as a unique document in terms of liquidity management, macroeconomic developments and pass-through of previous policy rate cuts to the lending rates.

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