During the September Monetary Policy Review, the Monetary Policy Committee had announced another “new normal” hike in the repo rate of 50 basis points, in line with forecasts, but with a non-unanimous vote of 5 to 1. Moreover, he had maintained his position (also with a 5-1 vote) and the CPI inflation projection for FY23 unchanged at 6.7%, while reducing the baseline forecast for growth. of FY23 GDP to 7.0% versus 7.2%.
Minutes released after the MPC’s policy review in September had revealed differing views from its members, with two of the outside members hinting at a break in December.
National data since then has been mixed. Headline CPI inflation tightened from an already uncomfortable 7.0% in August to a worrying 7.4% in September, before falling back to 6.8% in October, driven by a decline in food inflation, particularly vegetables, induced by a base effect. It nevertheless remained firmly above the 6.0% upper threshold of the MPC’s medium-term forecast range of 2.0-6.0% for the tenth month in a row, arguing for further rate hike in December.
Some risks cloud the near-term inflation outlook, such as supply disruptions of some perishable goods due to excessive rains, strong demand for services and some signs of higher headline inflation transmitting to categories such as housing rentals.
However, the total area sown under the current rabi season increased by 7.2% year-on-year as of November 18, driven by wheat, jowar and mustard, which bodes well for prices ahead. . Additionally, a high base should help further dampen YOY CPI inflation to ~6.0-6.2% in November 2022, with first draws below 6% likely to appear over the course of the month. next quarter.
On the growth front, the expected GDP growth figure for the second quarter of FY23 will be released shortly before the December 2022 monetary policy review. GDP at basic prices (at 2011-12 constant prices) in Q2 FY23 at 6.5%, higher than the MPC forecast of 6.3%. This represents a base effect halving from the 13.5% recorded in the first quarter of FY23. However, GDP growth from pre-Covid levels is expected to double to about 8% in the second quarter of FY23 compared to the 3.8% observed in the previous quarter, with a broadening of the economic recovery.
CIFAR estimates that sector growth in the second quarter of FY23 will be driven by services (+9.4%), with a rather moderate trend expected for industry (+2.0%) and agriculture , forestry and fishing (+2.5%).
Separately, year-on-year growth in the CIFAR Business Activity Monitor, an index of high-frequency indicators, stood at 7.4% in October 2022, returning to single digits after a gap six months.
The moderation in year-on-year growth of 13.6% in September 2022 was largely due to the earlier start of the holiday season in 2022 compared to 2021, and the consequent shift in holiday timing.
While the monthly performance of the constituent indicators was mixed in October 2022, the index was 18.3% above pre-Covid levels, indicating a continued broadening of the recovery.
The early trends shown by various high-frequency indicators for November 2022 are healthy, although this partly reflects the subdued base due to the impact of higher festive holidays in November 2021.
The global context remains mixed. Geopolitics remain challenging and recessions are looming in various advanced economies. However, the latter persuaded the prices of some commodities to retreat.
With US CPI inflation printing weaker than expected, concerns about the pace of rate hikes to be announced by the US Federal Reserve have eased. This cooled the 10-year US Treasury yield and also translated into a weaker 10-year G-Sec yield.
Simultaneously, a sharp pullback in the dollar index has helped the INR strengthen against the US dollar in recent weeks, offering some relief from the relentless depreciation seen for much of this year.
India’s foreign exchange reserves also surged to $545 billion as of November 11, 2022, from the recent low of $525 billion seen on October 21, 2022.
With CPI inflation remaining above the MPC’s 6% tolerance level in October 2022, we believe further rate hikes are certain in December 2022 policy to prevent the unanchoring of inflation expectations.
However, given the moderation in CPI inflation in October 2022 and expectations of a further cut in November 2022, we expect the size of the upside to be limited to 35 basis points, less than the 50 basis points observed during the last three reviews. Additionally, we anticipate that this vote will not be unanimous, which may lend itself to a neutral tone regarding the pace and timing of future rate hikes.
We currently expect GDP growth of around 5% in H2 FY23 and H2 FY24, periods deemed to be relatively free of base effects.
A gloomy global outlook poses a major risk to our baseline forecast, which is already below our forecast for potential GDP growth for the Indian economy.
Once inflation falls into the tolerance zone, further rate hikes should be data driven, in our view, with the balance tilting slightly in favor of avoiding a growth sacrifice.