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Monetary Policy : Agile RBI fights economic slowdown

In an effort to support the ailing economy from the negative impact of the Covid-19 pandemic, the RBI on 22nd May announced a series of measures, along with a cut in repo and reverse rate by 40bps to 4% and 3.35%; a basis point is 0.01 percentage point. In a span of just 2 months MPC has now reduced the policy rate by 115 bps.
The advancing of its MPC meet and the additional measures in shape of liquidity expansion, support to exports and imports and continuation of accommodative stance displays RBIs agility and readiness to mitigate the negative effect of COVID-19 along with focus on growth.

Domestic economic activity had been severely impacted on the back of the lock-down and the only silver lining is provided by agriculture, with the summer sowing of rice, pulses and oilseeds in the country progressing well. The GDP growth is indicated to contract sharply as the drop in economic activity has been higher than expectation. Moderation in inflation as witnessed in recent months indicates that inflation though likely to remain elevated in 1st half of the CY will likely to ease in 2nd half, thus leaving scope for further monetary accommodation.
RBI policy highlights
·        Repo rate reduced by 40bps from 4.40% to 4.00% and Reverse repo rate reduced by 40bps
from 3.75% to 3.35%.  
·        Bank rate and Marginal Standing Facility (MSF), stands adjusted at 4.25%.
·        Continuation with accommodative stance.
·        An extension of 3 more months for Moratorium on term loan, till 31st August, 2020.
·        Relaxation on asset classification as NPAs till 31st August, 2020.
·        SRF of Rs 150bn to SIDBI extended by additional 90 days.
·        Line of credit extension of Rs 150bn to EXIM Bank for a period of 90 days.
·        Relaxation of guidelines in Consolidated Sinking Fund (CSF) of State Governments.

Analysis
The cut in repo rates was in line with the market expectation, as the movement of the yield curve indicates that most of rate cut was priced in by the market. Going forward we count on another 50bps rate cut within the coming months, if inflation stays tepid. RBI focus will be concentrated on revival of growth. The extension of moratorium period bodes well to relieve stress of the borrowers, but impact on the rise of NPAs and provisioning by the lenders is to be carefully noted. Expectations that RBI may come up with OMOs for G-Secs and SDLs will bode well in reduction of the elevated spreads and limit the spike in yields. Range bound movements in the yield curve is foreseen in near term, with a gradual shift downwards

Strategy
Surplus liquidity in the system may increase the demand for high quality corporate bonds in the short to medium end of the curve and an expectation of spread contraction is high going forward. We continue with our stance on being overweight on conservative strategies, and reiterate our focus being on risk adjusted return in regards to fixed income portfolios. We maintain preference for AAA accruals funds and exposures in fixed income space can be taken through Banking & PSU Debt funds, high-quality Short-term funds and AAA Corporate Bond Funds.


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