RBI rate cuts - It's down to March or April

RBI rate cuts - It's down to March or April
The RBI was much upbraided by economists and marketmen for not cutting rates in the credit policy. Arguments ranged from pointing to tell tale signs of economic slowdown to the potential of massive capital inflows because of yawning interest rate differences.
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But take a look at what has happened on the ground since January this year. Yields have fallen from 7.9% to 7.4%, an effective 50-bps fall, and now a slew of banks ranging from SBI to Canara Bank to Bank of India and HDFC have cut rates.
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On hindsight, it appears that RBI Governor Y.V. Reddy was attempting a complex balancing act in the policy and looks like he has succeeded reasonably. My hunch even on a reading of the policy was that the governor wanted rates in the real economy to come down, but wanted to stop short of giving any overt signals himself.
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He was probably wary that with asset prices (both stocks and real
estate) still at stratospheric levels in January, an unadulterated dovish signal from him would have fuelled the asset price rally even further. It also could be that he wanted to retain his options given the global turbulence. He therefore, chose to refrain from cutting the policy rates.
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But with a clever use of moral suasion hinted to banks that he is not only okay with rates coming down, but rather that he actually wants lower rates. As of now, he appears to have succeeded. Most institutions have cut rates and yet asset prices have not galloped, though it is still early days.
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ICICI Bank alone has chosen not to cut rates. Bank insiders say they will prefer to wait and see through the end-March period, when rates typically go up for a combination of factors: advance taxes suck out a larger-than-usual amount of cash from the banking system, banks chase deposits to bloat balance sheets and are usually unwilling to lend in the overnight call market as it will require them to set aside capital.
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I have a hunch that ICICI is also not cutting rates because it is suspicious of the governor till he comes out and gives a clear unambiguous dovish signal.
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So when can one expect that much-awaited rate cut from the governor? In the not very distant future, for sure. Besides the yawning rate difference will get worse if U.S. Federal Reserve's Ben Bernanke administers another much-awaited 50-bps rate cut in March.
That will further complicate the task of capital flows, exchange rate management, inflation management, besides taxing the fisc.
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More important are the signs of slowdown. The IIP numbers for December may be a tad better than feared, but for the Oct-Dec quarter which is a mediocre 8% against over 13% year ago. Besides these numbers are the growing anecdotal evidence--news of job cuts in the IT sector, bonus reductions, softening demand for airline tickets--all indicating that the slowdown is catching up.
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To be sure investment demand is robust, but with the equity markets tanking, domestic interest rates stubbornly high, export demand slipping and consumption demand slowing, it may not be long before investment decisions are also put off.
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It appears these signs may not be lost on the governor. In fact, his reported response to journalists in Delhi smacks of an inter-policy cut. Last Friday as he emerged from a meeting with the finance minister, in Delhi, he was ambushed by journos asking him everything from his thoughts on UBS licence to inflation numbers to the possibility of rate cuts from the Fed.
"Wait till March", was the governor's response. It is unclear to which question he was responding.He was probably merely brushing away someone asking what he would do if the Fed cuts rates in March. But on second thoughts, look at the RBI's record in previous years in March:
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RBI & THE IDEAS OF MARCH
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Mar 1, 1999 cut bank rate by 100 bps to 8% Apr 1, 2000 cut bank rate by 100 bps Mar 1, 2001 cut bank rate, repo and reverse repo by 50 bps Mar 5, 2002 cut repo and reverse repo by 50 bps Mar 3, 2003 cut repo and reverse repo by 50 bps . In five of the past 10 years, RBI has cut rates, just a day or two after the budget. In fact I remember in 2000, Reddy, who was then the deputy governor, explaining that the smaller deficit has given the RBI manoeuvrability on the rate front. A few days later, the RBI cut rates. Are we in for a similar action this March? If not March, it will be April. Not later, is my hunch.