April 1, 2014
The First Bi-Monthly Monetary Policy Statement for FY 2014-15 maintains the status quo on policy rates with the broad direction of policy setting influenced by the Dr Urjit Patel committee recommendations. The RBI has also announced additional measures to further refine the liquidity management operations, while also announcing various developmental and regulatory policies as part of the Five-Pillar approach dealing with Financial markets architecture.
The policy stance underscores the disinflation glide path of achieving 8% CPI inflation by Jan 15 and 6% by Jan 16. Based on the current evolution of CPI inflation trends, the RBI does not anticipate further policy tightening in the near term. In line with the recent RBI stance of de emphasizing guaranteed liquidity access at the overnight Repo window, the access to overnight LAF has been reduced to 0.25% of NDTL, along with increase in term repo under 7 and 14 days to 0.75% of NDTL. The RBI has also restricted debt FIIs from investing in Treasury Bills, with incremental investment allowed only in Government securities with residual maturity of 1 year and above. The RBI has also cautioned about the year-end window dressing by banks , which have resulted in liquidity tightness and also abnormal moves in various segments of the financial market. The RBI is expected to announce proposals to mitigate these practices.
The RBI guidance cautions about the need to see through any transient base – effect reductions in headline CPI inflation, while also being alert to the possibilities of any upside surprises. In this context, the best case scenario would be for the RBI to remain on pause mode for a period of time, at least for the coming quarter. A more directional stance on rates would be primarily dependent on the new government’s fiscal stance, with external sector developments also influencing the outlook on inflation. A more pro active liquidity management as seen in the last few months with term repo being the primary instrument would ensure that the overnight rates remain in line with the prevailing policy stance and also the short end of the curve remains well anchored in the absence of any additional liquidity premium. The resumption of Government borrowing after a gap of almost 2 months would have its own challenges in terms of absorption in the absence of both rate cut and OMO expectations also the possibility of review in borrowing numbers in the full year Budget post elections.
We have been maintaining a cautious view as reflected in relatively lower duration across our bond and gilt funds in view of the policy stance that is predominantly focused on anchoring consumer inflation and inflationary expectations and the near-term challenges on the absorption of the government borrowing. We would continue to watch the events on the domestic political and global fronts which can have any bearing on the interest rates.
CIO, SBI MF