India Unlikely to Get a Rate Cut This Year despite Change in MPC's Stance, Say Economists

On 9 October, the Reserve Bank of India’s (RBI) Monetary Policy Committee (MPC) decided to keep policy rates unchanged. The repo rate has remained unchanged at 6.5 per cent since February 2023. However, the policy stance shifted from “withdrawal of accommodation” to “neutral.”

Experts had interpreted this change as a precursor to a long-awaited rate cut to support India’s slowing growth. The neutral stance was seen as giving the central bank more “flexibility and optionality” in navigating economic uncertainties.

Compared to the robust 8.2 per cent growth rate of the previous financial year, India’s economy underperformed in the first quarter of the current fiscal, with gross domestic product (GDP) growth slowing to 6.7 per cent. A key factor behind this loss of momentum for one of the world’s fastest-growing economies was the drying up of the central government’s fiscal pipeline.

“The main reason for the lower growth performance can be linked to the under spending reflected in government’s capital expenditure growth in the first quarter, which as per CGA’s (Controller General of Accounts) data was -35 per cent,” says DK Srivastava, chief policy advisor, EY India and member of the Advisory Council to the 16th Finance Commission.

The current allocation of Rs 11.1 lakh crore towards capital expenditure, announced by the Finance Ministry in the Interim Budget, is already at a historically high level, amounting to 3.4 per cent of the GDP. This comes at a time when India is navigating a fiscal consolidation path. According to Dipti Deshpande, principal economist at Crisil Limited, “A lower fiscal impulse due to moderating government spending to meet fiscal deficit targets is expected to weigh on growth.”

This means that where the limits of fiscal policy are becoming evident, a stimulus from the monetary policy side may be warranted. The RBI has projected a moderation in growth to 7.2 per cent for the current fiscal, while some analysts have pegged their estimates even lower, around 6.8 per cent. By shifting its stance to neutral, the central bank had signalled its readiness to take charge.

Inflation Bites Harder

But it may not be able to do so just yet. The reason is again the rising prices in the country. September saw retail inflation climb to a nine-month high of 5.49 per cent, driven by rising prices of fruits, vegetables, and personal care items.

While retail inflation dipped below 4 per cent in July and August, the spike in September pushed the quarter’s inflation to 4.24 per cent, exceeding the RBI’s target of 4 per cent. Although this figure marked the lowest inflation in 20 quarters, it is significant that retail inflation has remained above the target for 20 consecutive quarters.

A combination of adverse base effects and rising prices of food items is expected to keep retail inflation elevated in the range of 5.3-5.5 per cent in October, say economists. Core inflation, a critical indicator of underlying price pressures, has also been steadily rising. It reached an eight-month high of 3.5 per cent in September, up from 3.12 per cent in May.

“Precisely for this reason the MPC is on wait and watch mode. The future monetary policy action will be more data dependent. We still believe there is a low probability of monetary easing in rest of 2024-25, even if there is a rate cut, it will be symbolic and shallow,” says Devendra Kumar Pant, chief economist at India Ratings & Research.

Aditi Nayar, chief economist at ICRA Limited, is also not optimistic about a rate cut anymore. “The substantial rebound in the CPI (consumer price index) inflation print for September has appreciably dampened the possibility of the stance change in the October policy being followed up by a rate cut in the December meeting,” she says. “For a rate cut to be forthcoming in the December policy review, either the CPI inflation will need to flatten considerably below 5 per cent in the next print or the GDP growth for the second quarter will need to significantly undershoot the MPC’s expectations,”  she adds.

The RBI currently projects real GDP growth at 7 per cent for the second quarter, with expectations of 7.4 per cent growth for both the third and fourth quarters. To tackle unemployment and move towards developed status in the long run, estimates suggest that India needs to maintain a growth rate of at least 8 per cent.