Policy
Measures
- Repo rate unchanged at 6.25%, consequently, the Reverse repo rate remains at 5.75% and the MSF rate at 6.75%. All the six members of the RBI panel voted in favour of status quo in policy.
- Cash reserve ratio or CRR unchanged at 4%. RBI withdraws the temporary 100% hike in the CRR in the fortnight beginning 10 December.
- Foreign exchange reserve rose to all-time high of $364 billion on December 2.
- RBI injected liquidity worth Rs. 1 trillion through OMO purchases this fiscal.
Assessment
Global
growth picked up modestly in the second half of 2016, after weakening
in the first half. Activity in AEs improved, led by a rebound in the
US. In the EMEs, growth has moderated, but policy stimulus in China
and some easing of stress in the larger commodity exporters shored up
momentum. World trade is beginning to emerge out of a trough that
bottomed out in July-August and shows signs of stabilising. Inflation
has ticked up in some AEs, though well below target, and is easing in
several EMEs. Expectations of reflationary fiscal policies in the US,
Japan and China, and the waning of downward pressures on EMEs in
recession are tempered by still-prevalent political risks in the euro
area and the UK, emerging geo-political risks and the spectre of
financial market volatility.
International
financial markets were strongly impacted by the result of the US
presidential election and incoming data that raised the probability
of the Federal Reserve tightening monetary policy. As bouts of
volatility fuelled a risk-off surge into US equities and out of fixed
income markets, a risk-on stampede pulled out capital flows from
EMEs, plunging their currencies and equity markets to recent lows
even as bond yields hardened in tandem with US yields. The surge of
the US dollar from late October intensified after the election
results and triggered sizable depreciations in currencies around the
world. Commodity prices firmed up across the board from mid-November
on an improvement in the outlook for demand following the US election
results, barring gold which lost its safe haven glitter to the
ascendant US dollar. Crude prices have firmed after the OPEC’s
decision to cut output.
GVA
in Q2 of 2016-17 turned out to be lower than projected on account of
a deeper than expected slowdown in industrial activity. Manufacturing
slowed down both sequentially and on an annual basis, with weak
demand conditions and the firming up of input costs dragging down the
profitability of corporations. Gross fixed capital formation
contracted for the third consecutive quarter. Although government
final consumption expenditure slowed sequentially, it supported
private final consumption expenditure, the mainstay of aggregate
demand. The contribution of net exports to aggregate demand remained
positive, but on account of a sharper contraction in imports relative
to exports. CPI eased more than expected for the third consecutive
month in October, driven down by a sharper than anticipated deflation
in the prices of vegetables. Underlying this softer reading, however,
was an upturn in momentum as prices rose month-on-month across the
board.
Liquidity
conditions have undergone large shifts in Q3 so far. Surplus
conditions in October and early November were overwhelmed by the
impact of the withdrawal of notes from November 9. Currency in
circulation plunged by ₹7.4 trillion up to December 2;
consequently, net of replacements, deposits surged into the banking
system, leading to a massive increase in its excess reserves. The RBI
scaled up its liquidity operations through variable rate reverse repo
auctions of a wide range of tenors from overnight to 91 days,
absorbing liquidity (net) of ₹5.2 trillion. From the fortnight
beginning November 26, an incremental CRR of 100 per cent was applied
on the increase in net demand and time liabilities (NDTL) between
September 16, 2016 and November 11, 2016 as a temporary measure to
drain excess liquidity from the system. Liquidity management was
bolstered by an increase in the limit on securities under the market
stabilisation scheme (MSS) from ₹0.3 trillion to ₹6 trillion on
November 29.
Outlook
Growth
forecast cut to 7.1%, from 7.6% for this fiscal. Downside risks in
the near term could travel through two major channels: (a) short-run
disruptions in economic activity in cash-intensive sectors such as
retail trade, hotels & restaurants and transportation, and in the
unorganised sector; (b) aggregate demand compression associated with
adverse wealth effects.
Inflation
target remains 5% for March 2017. Demonetisation to lower prices of
perishables, could reduce inflation by 10-15 basis points by
December; however, crude price volatility, surge in financial market
turbulence could put March-end inflation target at risk.
The
decision of the MPC is consistent with an accommodative stance of
monetary policy in consonance with the objective of achieving
consumer price index (CPI) inflation at 5 per cent by Q4 of 2016-17
and the medium-term target of 4 per cent within a band of +/- 2 per
cent, while supporting growth. The RBI’s cautious approach
comes amidst a volatile global environment, which saw the rupee sink
to a record low last month as part of a sell-off in emerging market
assets. Pressure on the RBI to act has grown since November 8 when a
drastic plan to abolish Rs 500 and Rs 1,000 notes was put in place,
removing 86 percent of the currency in circulation in a bid to crack
down on black money.
