6 reasons why RBI’s Urjit Patel kept the repo rate unchanged, changed stance to ‘neutral’

The Reserve Bank of India (RBI) kept the policy rate unchanged at 6.25% and also changed its policy stance to 'Neutral' from 'Accommodative'.

RBI Governor Urjit Patel also kept the Reverse Repo Rate changed at 5.75%. The six-member Monetary Policy Committee (MPC) is committed to bring CPI near 4% on durable basis.

The FY17 GVA seen at 6.9% with risks evenly balanced and the FY18 GVA is seen at 7.4% with risks evenly balanced.

One of the reasons why the RBI has maintained status quo is banks are brimming with funds post demonetisation and the ball is now in bank’s court.

The rate cut has also not been announced to assess the effect of note ban, impact of inflation, output gap.

Here are 6 reasons why the RBI kept the repo rate unchanged

1. Liquidity: Post demonetisation, the banks have been inundated with funds. The demonetisation-induced ease in bank funding conditions has led to a sharp improvement in transmission of past policy rate reductions into marginal cost-based lending rates (MCLRs), and in turn, to lending rates for healthy borrowers, which should spur a pick-up in both consumption and investment demand.

2. Revival: The growth is expected to recover sharply in 2017-18 on account of several factors. “The discretionary consumer demand held back by demonetisation is expected to bounce back and secondly, economic activity in cash-intensive sectors such as retail trade, hotels and restaurants, and transportation, as well as in the unorganised sector, is expected to be rapidly restored,” the RBI stated.

3. Demonetisation: The MPC has changed its stance to ‘neutral’ as the committee is committed to bringing headline inflation closer to 4%. This requires further significant decline in inflation expectations, especially since the services component of inflation that is sensitive to wage movements has been sticky. The committee decided to change the stance from accommodative to neutral while keeping the policy rate on hold to assess how the transitory effects of demonetisation on inflation and the output gap play out.

4. Inflation: The MPC assessed the headline CPI inflation in Q4 of 2016-17 is likely to be below 5%. Favourable base effects and lagged effects of demand compression may mute headline inflation in Q1 of 2017-18. Thereafter, it is expected to pick up momentum, especially as growth picks up and the output gap narrows.

5. Seventh Pay Commission: The effects of the house rent allowances under the 7th Central Pay Commission award which have not been factored in the baseline inflation path. “The focus of the Union budget on growth revival without compromising on fiscal prudence should bode well for limiting upside risks to inflation,” the RBI stated.

6. Oil Prices: The crude oil prices are also a concern. Imports other than petroleum oil and lubricants (POL) came out of the spike in November and moderated in December.
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