MPC minutes suggest policy tightening a long way off - Capital Economics
India Economics

MPC minutes suggest policy tightening a long way off

India Economics Update
Written by Shilan Shah

The minutes of the Reserve Bank’s April policy meeting – in which interest rates were left unchanged – show that the MPC is committed to keeping policy accommodative to support the economic recovery. The surge in virus cases since that meeting is only likely to have strengthened its resolve. Markets are too hawkish in discounting rate hikes over the next 12 months.

  • The minutes of the Reserve Bank’s April policy meeting – in which interest rates were left unchanged – show that the MPC is committed to keeping policy accommodative to support the economic recovery. The surge in virus cases since that meeting is only likely to have strengthened its resolve. Markets are too hawkish in discounting rate hikes over the next 12 months.
  • The MPC voted unanimously to keep the repo rate and reverse repo rates unchanged at 4.00% and 3.35% respectively at the conclusion of its meeting on 7th April. The minutes to the meeting (released yesterday evening) confirm that the virus outbreak was at the forefront of the MPC’s thinking.
  • Jayanth Varma noted that that the jump in COVID-19 infections “has increased the downside risk to the growth momentum”. Governor Shaktikanta Das stated that it “adds uncertainty to the growth outlook”, before commenting that “in such an environment, monetary policy should remain accommodative to support, nurture and consolidate the recovery.” The continued rapid spread of the virus since the meeting (see Chart 1) and subsequent tightening of restrictions across several states is likely to have further strengthened the MPC’s convictions.
  • Even if the recent surge in virus cases subsides before long, the MPC will be very wary of withdrawing policy support too soon given the still-significant output gap.
  • Admittedly, some MPC members continue to sound cautious on the inflation outlook. The committee revised up its inflation forecasts by around 0.2%-pts across the next nine months or so. But like us, it still expects a drop in inflation beyond Q2 as last year’s rebound in oil prices enters the annual comparison. (See Chart 2 and our Update, “What next for inflation?” 24th March.)
  • Bringing all of this together, there is little pressure on the RBI to tighten policy any time soon, and we think that markets are too hawkish in pricing in 60bp of rate hikes over the next 12 months. (See Chart 3.) And with the central bank also pledging to ramp up its purchases of government debt on the secondary market through the new G-SAP programme, we expect only small increases in Indian bond yields over the coming years (see Chart 4), even in an environment of rising US yields.

Chart 1: New COVID-19 Cases (7d. Average)

Chart 2: Consumer Prices (% y/y)

Chart 3: Repo Rate (%)

Chart 4: 10-year Government Bond Yields (LC, %)

Sources: CEIC, Refinitiv, Capital Economics


Shilan Shah, Senior India Economist, shilan.shah@capitaleconomics.com