Officials getting skeptical on growth as India's central bank holds policy rate

RBI saw sources of inflation upside risks.

India's central bank, the RBI, kept the policy rate unchanged as expected, in line with its forward guidance.

According to a research note from HSBC Global Research, meanwhile, officials were a little more cautious on growth, seeing downside risks to their 5.5% central forecast for fiscal year 2014/15.

However, while the RBI acknowledged the recent drop in headline CPI inflation, it pointed out that this was due to food inflation and that core inflation remains elevated and sticky. Moreover, the RBI saw numerous sources of upside risks to inflation.

While it looks like officials will remain on hold for a while, this may not necessarily be the end of the tightening cycle.

Here's more from HSBC Global Research:

The RBI kept the policy rate (the repurchase or repo rate) on hold at 8.00%, in line with consensus and our expectations.

Consequently, the reverse repo and marginal standing facility (MSF) rates were left unchanged at 7.00% and 9.00%, respectively. The cash reserve ratio (CRR) was also kept unchanged at 4.00%.

It further cut the statutory liquidity ratio (SLR) by 50bps to 22% of NDTL (Net Demand and Time Liabilities) to step up credit availability to the private sector and retained its additional liquidity provision windows introduced in the previous meeting.

On the external front, the RBI took note of the modest improvement in global economic activity. It mentioned that investor risk appetite has lifted financial markets partly due to assurances of continued monetary policy accommodation in industrial countries.

At the same time, this implies increased vulnerability to portfolio flows in emerging markets.

On the domestic economy, the RBI was encouraged by the appearance of a revival in activity with firmer industrial and exports growth.

In services, there were mixed signals, but it acknowledged that there are early signs of a modest strengthening of corporate sales and business flows.

It said current trends support its real GDP growth forecast of 5.5% for the current year. However, it also noted several factors that could tilt the risks to the downside.

On inflation, it remains sceptical of the recent moderation in headline inflation, mainly due to continuing uncertainty over monsoon conditions and their impact on food production, possibly higher oil prices stemming from geo-political tensions and exchange rate movement, and strengthening growth in the face of continuing supply constraints.

In its forward guidance, the RBI stated that it believes it will act as necessary to ensure sustained disinflation.

The Bank believes that its January 2015 CPI target of 8% will likely be met, but said it is critical that the disinflationary process is sustained over the medium-term given upside risks to its January 2016 CPI target of 6%.