GO
Loading...

Why RBI isn't likely to budge on rates for a while

Photographer | Collection | Getty Images

Following the Reserve Bank of India's (RBI) decision to leave benchmark interest rates unchanged, economists says the central bank is likely to resist the pressure to ease for the remainder of the year to ward off a potential rebound in inflationary pressures.

The central bank held the key policy repo rate steady at 8 percent on Tuesday, in line with expectations, but warned of inflationary risks should a shortfall in monsoon rains trigger a run-up in food prices.

"The RBI…remains aptly concerned about upside risks to inflation and, consistent with this, reiterated its commitment to ensure sustained disinflation," Frederic Neumann, co-head of Asian economic research at HSBC wrote in a note following the decision.

In a statement accompanying the monetary policy review, the central bank said there are upside risks to its consumer price index (CPI) inflation target of 6 percent by January 2016, warranting a "heightened state of policy preparedness."

Read MoreIndia central bank keeps rates on hold, as expected

The central bank will likely wait till the end of the year, once the monsoon season has passed, to get a clearer picture on price pressures before making a decision to lower rates, said Neumman.

"We believe that the speed and nature of the recovery will determine rate cuts. A sharp recovery supported by a boost in consumption demand would stoke inflation given the sluggish supply response in the economy arising from structural constraints," he said.

After a prolonged period of sluggish growth, there are signs that Asia's third largest economy is bottoming out, including a pickup in manufacturing activity, exports and domestic consumption. However, economists say a major turnaround will continue to take some time.

Read MoreFive reasons why India's rebound is real

Rajeev Mallik, senior economist at CLSA, expects the central bank to stand pat for the rest of the fiscal year, ending March 2015.

"The idea is to disinflate the economy and position it so that when the next upturn comes, inflation is not as big of a problem," he said.

"Anyone gunning for early monetary easing will likely be disappointed," he added.

Read MoreMonsoon: the new threat in India's inflation battle

Since taking the helm of the RBI in September, Governor Raghuram Rajan has hiked rates three times in an effort to curb inflationary pressures. The repo rate has been unchanged since January, when the RBI increased it by a quarter percentage point.

Taimur Baig, director of Asia economics at Deutsche Bank, says Rajan's strategy to remain on hold is sensible given uncertainty around both inflation and growth.

"With so much uncertainty in place, and little time left this year, it doesn't make sense to be dovish now and hawkish later, it makes better sense to stay on the sidelines," he said.

Contact Central Banks

  • CNBC NEWSLETTERS

    Get the best of CNBC in your inbox

    To learn more about how we use your information,
    please read our Privacy Policy.
    › Learn More