The Reserve Bank of India (RBI) kept its key lending rate unchanged on Tuesday, leaving the door open for more easing but making that dependent on meeting a challenging inflation target for 2017.
At its last meeting in September, the RBI slashed the repo rate by 50 basis points to 6.75 per cent to boost growth.
RBI Governor Raghuram Rajan noted weak rural and global demand was holding back economic growth, while highlighting pockets of softness in sectors such as construction. But he said the focus of monetary policy would shift towards achieving consumer inflation of 5 per cent by March 2017, a target analysts say will be challenging, even as he noted risks to inflation remained "slightly to the downside" by the coming March.
The RBI "will use the space for further accommodation, when available, while keeping the economy anchored to the projected disinflation path that should take inflation down to 5 per cent by March 2017," Rajan said in his statement.
Achieving the RBI's target of 6 per cent inflation in January should not be a problem. But achieving Rajan's March 2017 objective may prove more difficult for a country that less than two years ago suffered double-digit inflation.
A recent pay hike for government employees and potential food price shocks are causing renewed concern about inflation. Meanwhile, a prolonged slump in commodity prices has pushed down consumer prices, but a more sustainable fall would depend on the government continuing to keep a lid on spending and pass reform measures such as a national goods and service tax. The RBI's next policy review is on Feb. 2, before the government usually releases its budget for the coming financial year.
Banks in focus
The RBI has lowered the repo rate by 125 basis points this year, including the larger-than-expected 50 bps in September. Easing inflation has let the RBI focus on supporting economic growth. Data on Monday showed the economy grew 7.4 per cent in the September quarter, faster than China, but below the government's goal of 8 to 8.5 per cent annual growth. The RBI on Tuesday reiterated its projection the economy will grow 7.4 per cent in the year ending March 2016.
However, Rajan has been frustrated by banks' slow transmissions of the RBI rate cuts, noting that lending rates had only fallen by a median of 60 basis point.
The RBI said it would soon announce a new methodology that will force lenders to set lending rates based on their cost of funding, taking away some of their freedom in setting rates.
"There's room building up for banks to transmit more. It's a matter of time," Rajan said.
