Even as inflation is cooling, the US Federal Reserve is widely poised to start cutting interest rates from later this month. Will the Reserve Bank of India follow suit?
Inflation in India too has softened recently and core inflation has been subdued for some time now. Nonetheless, there are concerns over volatile food prices, and therefore many economists have been stating that the RBI will not cut rates until at least December, and even when it does, the cycle will be shallow, at best 50 basis points (bps).
Contrary to these expectations, economists at Nomura have opined that one can expect a surprise repo rate cut by the Reserve Bank in its next policy meet in October and the central bank, over the course of the cycle, could cut the benchmark at which RBI lends commercial banks by a full 100 bps. They had earlier expected a 75 bps reduction over the rate cut cycle. Essentially, Sonal Varma, chief economist India and Asia ex-Japan at Nomura, and Aurodeep Nandi, India economist at Nomura, now see the repo rate at 5.50 per cent from the current 6.50 per cent by the middle of next year.
"Consensus views on India inflation and monetary policy are aligned to the RBI's hawkish guidance of upside food inflation risks and steady growth, leading to a delayed and shallow easing cycle. We disagree. We expect the RBI to cut its policy rate by a cumulative 100 bps to 5.50 per cent by mid-2025, more than consensus, starting with a surprise rate cut this October," the economists said.
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The contrarian view of Varma and Nandi stems from their analysis that food inflation is cooling, core inflation remains benign and inflation is already aligned to the 4 per cent target.
In the last few monetary policy committee meetings, RBI Governor Shaktikanta Das has stressed that the inflation target is 4 per cent and not the 2 per cent to 6 per cent range.
According to RBI's projections, CPI inflation in the current financial year ending March 2025 is seen at 4.5 per cent. In the MPC meeting in August, the central bank, in fact, raised its retail inflation expectations for the July-September quarter to 4.4 per cent from 3.8 per cent. It has projected inflation at 4.7 per cent and 4.3 per cent in the third and fourth quarters respectively.
However, the CPI inflation in July touched 3.54 per cent, a five-year low. It was at 5.1 per cent in June. The Nomura economists expect retail inflation to ease further to 3 per cent in August and average 3.6 per cent in the September quarter, which is 0.8 per cent below RBI's forecast. For the current financial year too, Nomura expects inflation at 4.1 per cent, undershooting the central bank's forecast of 4.5 per cent.
"Various underlying inflation measures are already below 4 per cent. The current level of household inflation expectations is consistent with inflation of 4.0-4.5 per cent. We also find evidence of broad-based disinflation: nearly 68 per cent of the CPI basket has an inflation rate of 4 per cent or less, the highest since early 2020," said Varma and Nandi.
But what about the volatile food inflation? According to the Nomura economists, high-frequency data show prices of vegetables, cereals and pulses have already declined sequentially in August and they expect moderation beyond August too with fresh crop arrivals and good monsoon rains benefiting cereals.
"We forecast average food price inflation of 4.5 per cent over the remaining months of FY25, down from 8.3 per cent so far this year," they said.
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The RBI MPC has left its repo rate unchanged at 6.50 per cent for nine consecutive meetings. While reigning in inflation was a key reason, a strong economic growth also gave it the cushion to maintain a status quo.
Varma and Nandi believe growth is going to soften going ahead. They expect India's GDP growth to moderate to 6.7 per cent this financial year from 8.2 per cent last year, with downside risks rising in 2025-26.
"Data for the April-June quarter and emerging data for July suggest some softening of growth momentum. This is evidenced in urban consumption indicators like passenger car and MHCV (medium and heavy commercial vehicle) sales, weaker corporate profit growth and moderating export and core import growth," they said.
The absence of a broad-based private consumption and private capex recovery, ebbing terms-of-trade tailwinds for firms and macroprudential tightening by the RBI are likely to emerge as drags, the Nomura economists said. Weaker global growth is also a risk for India's GDP growth prospects next financial year, they added.
In this backdrop, Varma and Nandi believe an inflection in India's monetary policy cycle is around the corner. They expect the RBI to cut the repo rate by 25 bps each in October, December, February 2025 and April 2025, MPC meetings.
