Accommodative at the Core, Policy turns to Equitable Distribution of Liquidity

The policy announcement from the RBI, after the MPC meeting, has left all the key policy rates unchanged. It has
reaffirmed the commitment to continue with the accommodative stance. It was expected that the RBI may not bring
about any changes in the policy as such due to two factors, (i) there was an interim announcement of certain measures by the Governor a couple of weeks back, and (ii) there was no deterioration as such of any major macro variables, especially, the price level.

The growth forecast for the current year has been downgraded to 9.50% from the previous 10.50%, mainly due to the
factoring-in of the possible effects of the second wave. It may be recalled that many research firms and analysts have
already lowered their forecast by 1% to 2%.

In the RBI’s view the risks to inflation are more or less balanced, while the CPI for the whole year may be at 5.10%, the Q2 inflation has been put at 5.40% as against the previous forecast of 5.20% for the same period. The high fuel prices, with brent at US$ 71 per barrel, may be an issue which is likely to unravel gradually. The fall in demand due to the second wave of the pandemic could be a moderating influence on the price level, as the RBI puts it, the weak demand may temper the price level. Inflationary pressures are likely to stay. RBI has highlighted the need for central and state governments to take steps to stem the rise in prices.

“Going forward, the inflation trajectory is likely to be shaped by uncertainties impinging on the upside and the downside. The rising trajectory of international commodity prices, especially of crude, together with logistics costs, pose upside risks to the inflation outlook. Excise duties, cess and taxes imposed by the Centre and States need to be adjusted in a coordinated manner to contain input cost pressures emanating from petrol and diesel prices. A normal south-west monsoon along with comfortable buffer stocks should help to keep cereal price pressures in check.”

The GSAP 2.0 for Q2 has been announced with a size of Rs.1.20 lakh Crs as against the Rs.1 Lakh Crs under GSAP 1.0. This will help the government borrowing program to sail through smoothly, though it meets approximately only a third of the size of the borrowing program for Q2. But that a higher amount is announced itself will bring some comfort to the markets. It may be stated here that the rates at the short end have been stable to lower in the recent past.

The focus so far has been on liquidity expansion or enhancement, but the focus now will be more on equitable
distribution of liquidity, as stated by the Governor. There is liquidity support for contact sensitive sectors – a separate
liquidity window of ₹15,000 Crs with tenors of up to three years at the repo rate till March 31, 2022 – such as hotels and restaurants; tourism – travel agents, tour operators and adventure/heritage facilities; aviation ancillary services – ground  handling and supply chain; and other services that include private bus operators, car repair services, rent-a-car service providers, event/conference organisers, spa clinics, and beauty parlours/saloons etc. has been announced. These sectors actually had to bear the brunt of the first as well as the second wave of the pandemic.

The policy announcement is not only accommodative in intent but in action and meets most of the street expectations in terms of providing further support to vulnerable sectors and ensuring smooth conduct of the borrowing program. The  inflation forecasts have been revised upwards, but the central bank has given precedence to growth as the economy is still grappling with the effects of a pandemic driven slowdown. At the current juncture the policy remains silent in terms of the expected timeline for the continuance of an accommodative stance. As the policy document mentions the future course would be dependent on, “sustain growth on a durable basis and continue to mitigate the impact of COVID-19 on the economy”. The pace of the vaccination drive, controlling the second wave and opening-up of the economy to regain the growth momentum witnessed in the last two quarters of FY21 would be the critical factors influencing the normalisation trajectory.

Having said that it would help investors to bear in mind that this policy is a policy in transition, which recognizes the need for accommodation but also takes cognizance of the challenges like price pressures. As far as investment portfolios go, the accent on very short term maturities will continue in the light of continuing pressures emanating from government borrowing program as also anticipated price pressures. A weaker Rupee, and faster improvements in global economic scenario especially in US are factors that cannot be ignored for their impact on the domestic economy and markets.


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