Words, Not Action From India’s Central Bank May Be Key
A widely-anticipated cut in interest rates by the Reserve Bank of India (RBI) on Friday is unlikely to get markets too excited. But what the central bank says just might, economists told CNBC.
The RBI is tipped to lower its key repo rate by 25 basis points to 7.25 percent to boost a weak economy, a move that would come in a week where the European Central Bank lowered interest rates by 25 basis points and the U.S. Federal Reserve has held fast to its commitment to maintain aggressive monetary stimulus.
(Read More: Fed Keeps Pedal to the Metal as Economy Wobbles)
Falling commodity prices and signs that price pressures are easing suggest that in addition to a rate cut, India's central bank could shift to a dovish stance on monetary policy, which in turn could pave the way for more rate reductions in the months ahead, analysts said.
"We expect a very substantive change in the tone of the statement because, on balance, the last statement was on the hawkish side," said Deutsche Bank Chief Economist Taimur Baig.
"We expect a major shift towards a dovish tone given the rather dramatic changes in commodity prices in the last few weeks," he added, referring in particular to a slide in oil and gold prices that bode well for India's inflation outlook.
(Read More: Growth Worries? Asia Should Hail That Oil Price Fall)
Jitters about the global growth have helped knock oil and gold prices down roughly 10 percent each since the RBI last met in March and delivered its second rate reduction of the year.
India's key inflation gauge eased to below 6 percent in March for the first time since 2009, a sign that the days of stubborn inflationary pressures may finally be in the past.
Baig, who has forecast monetary easing at the RBI's May and June meetings, said he might be inclined to factor in more rate cuts depending on the tone of the statement.
Analysts said there was also a chance that the RBI could also ease tight monetary conditions by lowering its cash reserve ratio (CRR), currently at 4 percent, on Friday.
"A 50 basis point CRR cut to 3.50 percent ranks high on the cards for us as a complement to a 25 basis point repo rate cut to 7.25 percent," analysts at Mizuho Bank said in a note. "And if the RBI unexpectedly takes a less dovish stance in favor of price stability we think a CRR cut will be preferred to a repo rate cut."
What Next?
Glenn Levine, senior economist at Moody's Analytics in Sydney, said there was scope for a more aggressive monetary policy from the RBI given a weak economy.
Data on Thursday highlighted the fragile outlook for Asia's third largest economy. The HSBC Manufacturing Purchasing Managers' Index dipped to 51.0 in April from 52.0 in March, falling for a second straight month to its lowest level since November 2011.
India's economy likely grew at a decade-low pace of 5 percent in the fiscal year which ended in March 2013 and analysts said the focus will be on the next set of GDP numbers due later this month.
"The Q1 GDP numbers come out at end of May and if that shows deterioration in growth, the RBI will probably cut rates in June," said Levine.
(Read More: Is a Key Pillar of India's Economy in Jeopardy)
Some analysts said they would not rule out the prospect of an aggressive half-point rate cut on Friday.
"Markets are expecting a 25 basis point cut and there is a slim chance that they (RBI policy makers) could be aggressive and deliver a 50 basis point cut," said Sanjiv Dhawan, managing director at JV Capital Services in Mumbai.
- By CNBC.Com's Dhara Ranasinghe; Follow her on Twitter: @DharaCNBC