1. Market Insight
APRIL 2012
RBI’S ANNUAL MONETARY POLICY (FY13) - A PERSPECTIVE
SALIENT POINTS
• Monetary Measures:
- Repo rate cut by 50 bps to 8%
- Consequently the reverse repo and the MSF rate stand revised to 7% and 9% respectively
- In order to provide additional liquidity cushion to banks, the cap on borrowings under MSF has been
raised to 2% of NDTL from 1% earlier
- Cash Reserve Ratio (CRR) is unchanged at 4.75%
- Bank rate has been adjusted downwards to 9%, in line with MSF rate
• Economy forecasted to expand by 7.3% in FY13 (baseline), assuming normal monsoons.
• Expects inflation to be range-bound during the year on account of impact from possible pass-through
of global commodity price rise being offset by fall in core inflation - pegs WPI at 6.5% for March 2013.
• M3 growth is pegged at 15%, with a view that deposit base will expand by 16% and non-food credit will
grow by 17%
• Policies :
- Has announced additional measures to ward off systemic risk arising from lending against gold – cap on
exposure to a single NBFC to 7.5% of capital funds (earlier 10%). Banks should determine an internal
sub-limit for the sector as a whole
- Asked banks to waive pre-payment penalty on home loans
- Banks to ensure that there is minimum variance on deposit rates for similar maturities – difference
between retail and bulk deposit rates to be reduced
- Expects to issue final guidelines on securitization and Basel III by April 2012
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Repo CRR SBI - 1 Yr Deposit Rate
10
9
8
7
6
5
4
May-04
May-05
May-06
May-07
May-08
May-09
May-10
May-11
Jan-04
Jan-05
Jan-06
Jan-07
Jan-08
Jan-09
Jan-10
Jan-11
Jan-12
Sep-04
Sep-05
Sep-06
Sep-07
Sep-08
Sep-09
Sep-10
Sep-11
Source: RBI, Bloomberg, Morgan Stanley Research
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2. The quantum of rate cuts took the market by surprise given the cloudy outlook on inflation and recent
RBI views that growth moderation has been modest.The recent weak economic data along with soft
headline inflation numbers (especially manufacturing goods inflation) may have prompted RBI to cut
rates in order to prevent any sharp slowdown in growth. Instead of any further CRR cuts, the central
bank opted for an increase in the borrowings cap under the Marginal Standing Facility (MSF).
At the same time, the central bank maintained a very cautious stance about future rate actions and
highlighted concerns on various fronts – inflation and twin deficits. RBI expects inflation to remain
at current levels as the recent high global commodity and energy prices impact input costs and
domestic fuel prices, offsetting any benefits from moderation in demand side pressures.
The various measures announced as part of its efforts to reduce systemic risks are positive, given the
sharp rise in gold related lending activities. Other policy measures such as reducing variance on
retail/bulk deposits could lead to higher costs for banks and increased volatility in the last quarter of
every fiscal year. After adjusting the bank rate earlier this year, RBI has adjusted the bank rate to 9%,
bringing it in line with the MSF rate and this should be the trend going forward. Overall, the
policy statement reflects the tough choices faced by the central bank and it has chosen to protect
growth at the risk of inflation. It also appears to have chosen a higher rate cut, given the lag in
monetary transmission.
MARKETS
The aggressive rate cuts led to a fall in g-sec yields across maturities – however the extent of downshift
was relatively less steep in the 5-year segment, as compared to the 10-year gilt yields.
Yesterdayʼs close Todayʼs close
1-year Gilt yield 8.20 8.05
5-year Gilt yield 8.49 8.40
10-year Gilt yield 8.44 8.33
5-yr Corporate Bonds (AAA) 9.75 9.62
Equity markets rallied helped by the rate cut along with positive trends in European markets. Stocks in
some interest rate sensitive sectors moved higher, especially infrastructure and real estate. The latter was
boosted by hopes of increased demand due to lower rates and also removal of the pre-payment penalty on
floating rate loans. Banking sector did not move up substantially as RBI’s tone was not dovish and some
of the policy measures such as lending to gold-related NBFCs, minimum variance on deposits and waiver
of pre-payment penalty on housing loans, were seen to have a negative impact on margins.
Equity Indices (% change since yesterdayʼs close)
BSE Sensex 1.21
Nifty 1.22
S&P CNX 500 1.08
BSE Realty 2.41
BSE Metal 2.01
BSE CG 1.83
BSE Bankex 0.79
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3. OUTLOOK
The increase in global commodity and energy prices has led to concerns about the impact on the
global economy. After holding on to higher interest rates, many central banks in EM countries have
started to ease their monetary policies, with countries like Brazil following up with a large fiscal
stimulus package.With growth trends in key developed markets such as US showing a positive sign,
demand pressures could push up global prices. However, resolution of geo-political issues can help
alleviate some of the pressures on the energy front. With key central banks supporting further
quantitative easing, the search for higher yields could continue.
RBI has ensured that it does not release any animal spirits by the aggressive rate cut through its
qualifying comments and cautious tone regarding the future. It has clearly indicated that the
probability of further rate cuts over the near term is low, until unless the economic data flows provide
comfort. Now the focus shifts to trends in inflation as well as the twin deficits. Given the moderation
in economic growth, there remain concerns about government’s borrowings and the fiscal deficit that
can contribute to inflation. On the other hand, a transparent and conducive policy environment can
help in attracting further capital flows, and reducing the pressure on current account.We expect short
term rates to move down in line with the repo rate, but continue to be cautious about the long end
of the curve due to the various reasons mentioned above.
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