RBI keeps repo rate unchanged, launches SDF to absorb excess liquidity

RBI said it would also remain accommodative while focusing on withdrawal of accommodation to ensure that inflation remains within the target going forward, while supporting growth.

Simultaneously, RBI also announced the activation of the Standing Deposit Facility (SDF), which will help the central bank absorb liquidity (deposits) from commercial banks without giving government securities in return to the banks. SDF will be the basic tool to absorb excess liquidity under the new monetary policy. 

These decisions, according to RBI, are in consonance with the objective of achieving the medium-term target for consumer price index (CPI) inflation of 4 per cent within a band of +/- 2 per cent, while supporting growth.

At a time when most central banks in major economies have raised interest rates, the Reserve Bank of India decided to maintain status quo on key policy rates, paving the way for cheaper interest in home loans to stay for now.

RBI said cheaper interest rates on home loans will continue for now and announced an extension of the pandemic-related relaxation that facilitates lower interest rates for home loans with high loan-to-value ratio by a year

The central bank extended the lower risk weightage allowed for individual home loans with high loan-to-value ratio by another year to 31 March 2023. “The risk weights for individual housing loans were rationalised in October 2020 by linking them only with loan-to -value (LTV) ratios for all new housing loans sanctioned up to March 31, 2022," RBI Governor Shaktikanta Das said in his statement.

Since the RBI left the repo rate - the external benchmark that most banks use for pricing their retail floating rate loans – unchanged in its monetary policy resolution, banks will not, for now, increase interest rates for floating-rate home loans sanctioned after 1 October 2019, when the external benchmarking regime came into force.

RBI noted that since the MPC’s meeting in February 2022, the global economic and financial environment has worsened with the escalation of geopolitical conflict and accompanying sanctions. Commodity prices have shot up substantially across the board amidst heightened volatility, with adverse fallouts on net commodity importers. Financial markets have exhibited increased volatility. Crude oil prices jumped to 14-year high in early March; and despite some correction, they remain volatile at elevated levels. Supply chain pressures, which were set to ease, are rising again. 

Several central banks, especially systemic ones, continue to be on the path of normalisation and tightening of monetary policy stances. Resultantly, sovereign bond yields in major AEs have been hardening. Bullion prices had buoyed to near 2020 highs on safe haven flows, with some recent correction as bond yields rose. Global equity markets fell, although more recently they have recovered some ground. In recent weeks, strong capital outflows from the EMEs have moderated thus curbing the downward pressures on their currencies, even as the US dollar has strengthened. Overall, the global economy faces major headwinds from several fronts, including continuing uncertainty about the pandemic’s trajectory.

On the domestic front, RBI noted that the second advance estimates (SAE) for 2021-22 released by the National Statistical Office (NSO) on 28 February 2022 placed India’s real gross domestic product (GDP) growth at 8.9 per cent, 1.8 per cent above the pre-pandemic (2019-20) level. On the supply side, real gross value added (GVA) rose by 8.3 per cent in 2021-22, with its major components, including services, exceeding pre-pandemic levels. GDP growth in Q3:2021-22 decelerated to 5.4 per cent.

RBI said available high frequency indicators for fourth quarter 2021-22 exhibit signs of recovery with the fast ebbing of the third wave but the picture is mixed. Urban demand reflected in domestic air traffic rebounded in March and the pace of contraction in passenger vehicle sales moderated in February. On the other hand, rural demand mirrored in two-wheeler and tractor sales contracted in February. Import of capital goods increased robustly in February, although domestic production continued to contract. Merchandise exports remained buoyant and clocked double-digit growth for the thirteenth successive month in March 2022 and reached $417.8 billion in 2021-22 surpassing the target of $400 billion. All categories of imports, however, have risen even faster, leading to merchandise trade deficit at a record annual level of $192 billion in 2021-22 or 6.1 per cent of GDP.

On the supply side, foodgrain production touched a new record in 2021-22, with both kharif and rabi output crossing the final estimates for 2020-21 as well as the targets set for 2021-22. The manufacturing PMI remained in expansion zone in March, although it moderated somewhat to 54.0 from 54.9 in February. Services sector indicators – railway freight; e-way bills; GST collections; toll collections; fuel consumption; and electricity demand – were in expansion in February-March. The services PMI continued in expansion mode, inching up to 53.6 in March from 51.8 in the preceding month.

Headline CPI inflation edged up to 6.0 per cent in January 2022 and 6.1 per cent in February, breaching the upper tolerance threshold. Pick-up in food inflation contributed the most in headline inflation, with inflation of cereals, vegetables, spices and protein-based food items like eggs, meat and fish being the key drivers. Fuel inflation moderated on continuing deflation in electricity and steady LPG prices. Core inflation, ie, CPI inflation excluding food and fuel, remained elevated, though there was some moderation from 6.0 per cent in January to 5.8 per cent in February primarily due to the easing of inflation.

According to RBI, overall system liquidity remained in large surplus, with average daily absorption (through both the fixed and variable rate reverse repos) under the LAF at Rs7.5 lakh crore in March, marginally lower than Rs7.8 lakh crore in January-February 2022. Reserve money (adjusted for the first-round impact of the change in the cash reserve ratio) expanded by 10.9 per cent (y-o-y) on April 1, 2022. Money supply (M3) and bank credit by commercial banks rose (y-o-y) by 8.7 per cent and 9.6 per cent, respectively, as on March 25, 2022. India’s foreign exchange reserves increased by US$ 30.3 billion to US$ 607.3 billion in 2021-22.

Looking ahead, RBI said, the inflation trajectory will depend critically upon the evolving geopolitical situation and its impact on global commodity prices and logistics. Domestic prices of cereals have increased in sympathy with international prices, though record foodgrain production and buffer stock levels should prevent a major flare up in domestic prices. Elevated global price pressures in key food items such as edible oils, and in animal and poultry feed due to global supply shortages impart high uncertainty to the food price outlook, warranting continuous monitoring.