Comment on RBI Credit Policy by Pankaj Pathak, Fund Manager- Fixed Income, Quantum AMC

 Comment :

Key Measures Announced

The monetary policy committee (MPC) of the RBI left the Policy Repo rate unchanged at 6.5% and maintained the policy stance with a majority vote (5/6) as ‘withdrawal of accommodation’.

The RBI expects GDP growth to remain on strong footing despite slowing external demand as domestic demand showed resilience. The GDP growth forecast for FY24 is retained at 6.5% YoY.

On Inflation, the RBI highlighted uncertainties around kharif sowing and reservoir levels. Possible El Niño conditions and global food and energy prices continue to have an influence on the inflation trajectory going forward. Core inflation has eased by 140 bps from its recent peak in January 2023, the RBI expects the near-term inflation to soften. The CPI inflation forecast for FY24 retained at 5.4% with Q2 inflation seen at 6.4%, Q3 at 5.6% and Q4 at 5.2%. CPI inflation for Q1FY25 seen at 5.2%

Our Take

Going into the policy, the market expectation was for status quo on rates and a cautious tone on inflation. To that extent the policy was in line with the market expectation. However, what stood out was the RBI's emphasis on liquidity management with an explicit reference to using OMO sale of government bonds to suck out excess liquidity if need be.

Historically, October-May period is observed to have high cash withdrawals due to the festive and wedding seasons. This generally tends to reduce the durable liquidity in the banking system, which now appears to be the RBI’s area of focus under liquidity management. Thus, the mention of OMO sale at this stage was a bit of a surprise and it leaves the window open for speculations regarding the level of liquidity at which the RBI may plan out the OMO sale and its quantum.  

The RBI also mentioned about an upside risk to inflation from possible El-Nino weather conditions and rising global food prices. However, the impact of food price shocks is now slowly fading. The Government's prompt supply side measures should also ease food inflation going forward. We expect CPI inflation to remain on downward path and fall closer to 4.5% by mid-2024. On the rates, we expect the RBI to remain on an extended pause.

From bond market’s perspective, we continue to see a favourable demand supply balance in the bond market going forward though uncertainty around the timing and quantum of OMO sale has clouded our outlook somewhat.   

We continue to like long duration bonds from valuation perspective. However, we have adopted a cautious view on the market for now and will take some time to evaluate the liquidity conditions and impact of potential OMO sales.