Future rate hikes may be in multiples of 25bps

Further hike in the key policy rates is imminent. However, it has been presumed by the MPC members, who met on May 2-4 as part of an off-cycle meet, that it may be in the multiples of 25 basis points (bps) until it goes as high as 100-125 bps. In fact, the idea was mooted by Prof Varma who saw no merit in not following the simplicity of moving in multiples of 25bps, and preferred a 50bps hike.

RBI Governor Shaktikanta Das was right when he said that the rebound in domestic activity was getting gradually generalized. Additionally, he also noted that monetary policy actions aimed at lowering inflation and anchoring inflation expectations should help strengthen medium-term growth.

The triple whammy of commodity-price shocks, supply-chain shocks and resilient growth, as per Emkay, has shifted the reaction function in favour of inflation containment. The inflation prints of next two quarters are also likely to exceed 6 per cent, which could pressure the RBI into acting sooner rather than later. Analysts are tracking next month's inflation at 6.8 per cent, and this may push the MPC to hike by another 25bps-50bps in June. FY23 could thus further see rates going up by 100-125bps, with the RBI now showing its intent to keep real rates neutral or above to quickly reach pre-Covid levels. The RBI's rhetoric has firmly moved in a hawkish direction. Deeply negative real rates seem to unease most members. Prof Varma insisted that at least 100bps of hikes needed to be carried out very soon. However, Dr Patra and Prof Goyal hinted at a more nuanced and calibrated approach to hikes once the RBI quickly reaches pre-Covid neutral accommodation.

Icra expects the MPC to hike the repo rate by a further 40 bps in the June review and 35 bps in the August review.

That will revert us to the pre-pandemic level of the repo rate and help to prevent inflationary expectations from getting unanchored. After that we expect a pause to see the impact of the rate hikes on economic growth. We foresee a terminal rate of 5.5 per cent by mid-2023. Overtightening is not warranted in the current circumstances as inflation is being fuelled by global supply side factors, and may needlessly sacrifice domestic growth and sentiment.

Even as we retain our base case repo rate hike of 40 bps (along with a 50 bps CRR hike) in the upcoming June policy, analysts do not rule out an outside chance of 50 bps hike given the need towards the conventional moves of multiples of 25 bps. Overall, Kotak has pencilled in cumulatively further repo rate hikes of 110-135 bps by end-FY23.