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Third Quarter Review of Monetary Policy 2013-14

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Vincent

On the basis of an assessment of the current and evolving macroeconomic situation, it has been decided to:

· increase the policy repo rate under the liquidity adjustment facility (LAF) by 25 basis points from 7.75 per cent to 8.0 per cent; and

· keep the cash reserve ratio (CRR) of scheduled banks unchanged at 4.0 per cent of net demand and time liability (NDTL).

Consequently, the reverse repo rate under the LAF stands adjusted at 7.0 per cent, and the marginal standing facility (MSF) rate and the Bank Rate at 9.0 per cent.

Assessment

  1. Since the Mid-Quarter Review of December 2013, the global recovery is gaining traction, led by the strengthening of the US economy, but it is still uneven and subdued in the Euro area and Japan, and a slowdown in China seems to be underway. Notwithstanding the boost from stronger external demand, uncertainty continues to surround the prospects for some emerging economies, with domestic fragilities getting accentuated. Financial market contagion is a clear potential risk.

  2. Domestically, some loss of momentum of growth is likely in Q3 of 2013-14, despite a strong pick-up in rabi sowing. Industrial activity remains in contractionary mode, mainly on account of manufacturing, which declined for the second month in succession during Q3. Consumption demand continues to weaken and lacklustre capital goods production points to stalled investment demand. Fiscal tightening through Q3 and Q4 is likely to exacerbate the weakness in aggregate demand. Lead indicators of services suggest a subdued outlook, barring some pick-up in transport and communication activity.

  3. While retail inflation measured by the consumer price index (CPI) declined significantly on account of the anticipated disinflation in vegetable and fruit prices, it remains elevated at close to double digits. Moreover, inflation excluding food and fuel has also been high, especially in respect of services, indicative of wage pressures and other second round effects. In terms of the wholesale price index (WPI), headline inflation eased to a four-month low with the sharp decline in vegetable and fruit prices. Non-food manufactured products (NFMP) inflation, however, rose in December on an uptick in prices of chemicals, non-metallic minerals and paper products. Hardening prices of services and key intermediates seen in conjunction with rising bank credit, increase in order books, pick-up in capacity utilisation and the decline in inventories of raw materials...

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