With retail inflation showing signs of softening and the US Fed moderating the pace of increase in its benchmark interest rate, the Reserve Bank is likely to settle for a smaller 25 basis points repo rate hike in its forthcoming bi-monthly monetary policy due later this week.

In its December monetary policy review, the central bank had raised the key benchmark interest rate (repo) by 35 basis points (bps) after delivering three back-to-back increases of 50 bps.

Since May last year, the Reserve Bank has increased the short-term lending rate by 225 basis points to contain inflation, mostly driven by external factors, especially global supply chain disruption following the Russia-Ukraine war outbreak.

RBI's rate-setting panel - Monetary Policy Committee (MPC) - will start its three-day deliberations on the next set of monetary policy on Monday. The decision will be announced on February 8.

Kotak Institutional Equities in a report said the global inflation environment is gradually turning benign although inflation is still well above every central bank's target. Inflation will likely moderate further in the next few months, leading to the end of the rate hiking cycle by first half of 2023 and possible rate cuts in late-2023/early-2024.

"However, given large global uncertainties, central banks' levers for supporting growth through monetary easing remain limited, thereby risking higher rates for an extended period.

"We expect the RBI MPC to hike policy rate by 25 bps to 6.5 per cent, followed by a prolonged wait-and-watch approach, as it assesses the lagged impact of monetary tightening on growth and inflation," it said.

The RBI has been tasked to ensure that retail inflation remains at 4 per cent with a margin of 2 per cent. However, it failed to keep the inflation rate below six per cent for three consecutive quarters beginning January 2022.

However, the retail inflation based on the Consumer Price Index (CPI) has shown signs of moderation in November and December as it fell below the RBI's upper tolerance level of 6 per cent.

On his expectations from the MPC, Dhruv Agarwala, Group CEO, Housing.com said amid projections of slower growth than previously forecasted for 2023-24, the RBI will probably stick to a moderate increase in its benchmark lending rate in the upcoming policy announcement, before hitting a pause button on hikes later in 2023.

"The move is likely to have limited impact on real estate demand as home purchase decisions are driven and determined by several factors other than just home loan rates. That said, borrowers would feel the pinch of this increase in rates as home loan EMIs for existing and new loans would go up," he said.

Amita Vaidya, Director, Sarla Anil Modi School of Economics, NMIMS Mumbai too said the monetary policy committee may ease its monetary tightening stance.

"However, the downside of global economic outlook continues. Domestic economy is showing an uptick and resilience. Food inflation continues to have increased pressure from high cereal prices. Thus RBI may remain focused on withdrawal of accommodation and raise the policy rate by 25 basis points," she said.

On the other hand, Ranen Banerjee, Partner and Leader, Economic Advisory Services at PwC India said with the US Fed bringing down the quantum of increase to 25 bps, CPI within the tolerance range of RBI, yield differentials between US and India increasing to around 3.75 percentage points, sluggish exports and need to keep borrowing costs low for government and the private sector, the MPC does not have many reasons for a further rate hike.

"The only argument for a rate hike would be too early a pause may lead to de-anchoring of inflation expectations. On this front too, given our inflation is mostly demand-led and not supply-led, the arguments are weak.

"We should therefore not be surprised if the majority in MPC actually goes for a pause or a token 10-15 bps repo rate increase from a signalling perspective," said.

Recently speaking at the 22nd FIMMDA-PDAI Annual Conference, RBI Governor Shaktikanta Das said that with some ebbing of COVID-related restrictions and cooling of inflation in various countries, though still elevated, central banks have started what appears to be a pivot towards lower rate hikes or pauses.

"At the same time, they continue to emphatically reiterate their resolve to bring inflation down closer to targets. High policy rates for a longer duration appear to be a distinct possibility, going forward. On the growth front, projections are now veering around to a softer recession as against a severe and more widespread recession projected a few months back," he had said.

In this hostile and uncertain international environment, Das said the Indian economy remains resilient, drawing strength from its macroeconomic fundamentals.

"Our inflation remains elevated, but there has been a welcome softening during November and December 2022," he said. Core inflation, however, remains sticky and elevated, the Governor added.

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