Deutsche sees Rajan cutting rates by 0.25% each next week

Germany's Deutsche Bank joined the chorus of rate cut-callers on Friday saying it expects Reserve Bank Governor Raghuram Rajan to effect a quarter percentage point reduction in the policy rates on Tuesday.

Mumbai: Germany's Deutsche Bank joined the chorus of rate cut-callers on Friday saying it expects Reserve Bank Governor Raghuram Rajan to effect a quarter percentage point reduction in the policy rates on Tuesday.

"With most of the conditions laid down by the RBI in its April guidance have been met, we expect Rajan to cut the repo rate by 25 bps Tuesday and an equal amount in August, which would be the last rate cut in this cycle. He will find the current state of the economy and outlook for inflation, growth, and reforms calling for easing," it said in a note.

Despite a high GDP projections, the report said a wide range of data such as factory production, trade, capacity utilisation, sales, investment, credit growth, wages, revenue receipts, and corporate earnings paint an economy still struggling to show any meaningful recovery and in all likelihood characterised by a large output gap.

The report further said the best indicator for the RBI should be the inflation numbers, even though food and fuel may not remain as favourable as they have been in the past year.

"RBI's inflation targeting glide path - 5 percent by January next-appears safe," the report said, adding, on the fiscal reforms front too, Rajan will find the developments so far this year broadly in line with his wish-list.

"Against these backgrounds, we think the case for further monetary easing is rather compelling," the report said, adding, "from a cost-benefit perspective, there is little to worry in terms of unintended consequences from a rate cut. There is little sign of exuberance in credit growth, asset prices no longer seem in danger of overshooting, real rates will remain high even if rates are cut by 50 bps, and demand is certainly not at risk of over-heating."

On the benefit side, Rajan could help consumption and investment sentiment and reduce risk of an overly tight stance in an economy that is facing headwinds from all across, it said.

The report also said even on the transmission side, there is some development with all the leading banks cutting rates to 10-25 bps, thus meeting one of the key preconditions Rajan set for further easing in the April 7 policy when he left rates unchanged citing lack of transmission by lenders.

Calling for a deeper cut it said, "RBI will need to cut policy rates by another 50 bps to nudge banks into cutting lending rates by another 25 bps" as so these nominal cuts by banks have not helped effective transmission.

"A 100 bps cumulative policy rate cut will likely lead to a 50 bps lending rate cut eventually, but faster the transmission, the better it will be for growth given that growth momentum remains weak," argued the report, and pointed out that the pace of transmission could have been better if RBI provided more liquidity through CRR cuts.

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