Formation of the monetary policy committee : DBS Research Report

The next step in the Reserve Bank of India (RBI) policy shift to inflation targeting is formation of the monetary policy committee. Press reports yesterday signalled that the finance ministry and the RBI have agreed on the ideal composition of such a committee. The panel is likely to have equal representation, with three members nominated by the government and the rest from the central bank. From RBI's end, the Governor is expected to retain the crucial veto, accompanied by the deputy governor and executive director (monetary policy). With the official buy-in with the government, the RBI adopted inflation targeting earlier this year.

The central bank's mandate is to lower and stabilise CPI inflation around 4% (+/-2% band) by Mar 2018. Moving in this direction, Mar17 target was fixed at 5%, to be gradually lowered to 4% year after. Earlier Governor Raghuram Rajan had also backed plans of a committee to set rates, as this would ensure policy continuity, reduce internal/ external pressure and improve decision-making. At the outset, if these indications are confirmed, the make-up of the committee will address concerns that a bigger say of a progrowth government may have given policy decisions a de-facto dovish bias. At the same time, the central bank's position may have been compromised, if it had received insufficient representation in the panel but held accountable for meeting targets.

Yesterday's indications are positive and balanced, but we are mindful that the official confirmation is still pending. Meanwhile, the latest minutes of the RBI Technical advisory committee saw two members suggest a steeper 50bp cut, one 25-50bps while the remaining backed a 25bps cut. Governor Raghuram Rajan went with the minority and surprised with a 50bps cut in Sept. This bunched-up move was driven by comfort with the evolving inflation trajectory, preference to front-run impending US hikes and jumpstart the domestic transmission process. We expect a pause to follow in December. Odds of further cuts in the Mar16 quarter are contingent on CPI inflation undershooting the 5.8% estimate and easing external risks. For now, we expect the central bank to remain on a prolonged pause.

Source : Equity Bulls

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