Goldman Sachs: Reserve Bank of India policy preview—25-bp hike priced in, watch statement for clues on end of cycle We expect the Reserve Bank of India (RBI) to hike policy rates by 25 bp on July 26. This is the Bloomberg consensus as well. The statement accompanying the policy action will be more important than usual, as it will provide important clues as to when the RBI may stop the rate hiking cycle.

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Reserve Bank of India policy preview—25-bp hike
priced in, watch statement for clues on end of cycle
We expect the Reserve Bank of India (RBI) to hike policy rates by 25 bp on July 26. This is
the Bloomberg consensus as well. The statement accompanying the policy action will be more
important than usual, as it will provide important clues as to when the RBI may stop the rate
hiking cycle.


We think the RBI’s language will still have a hawkish bias, but will importantly recognize
that domestic demand, particularly investment demand has slowed considerably, and that
there are headwinds to growth from the global environment. While we believe the level of
inflation and expectations still remains sufficiently elevated for the central bank to not pause at
this stage in its fight against inflation, we think the RBI will likely express some satisfaction that
rate hikes are having an impact on bank credit and on domestic demand and that past hikes will
only affect inflation with a lag. The incremental credit-deposit ratio has declined (see Exhibit 2),
as non-food credit growth slowed to 19.5% yoy in the week ending July 1, while deposit growth
has increased to 18.4% yoy. Rising deposit rates and lower attractiveness of alternative vehicles
for household savings, such as equities may be driving the increase in deposit growth.


We think the RBI will prepare the street for some high inflation prints in the near term and
therefore, against the view that inflation is likely to come off immediately. The recent domestic oil
price hike (see Government raises fuel prices—positive move, higher near-term inflation, India
Views, June 26, 2011) will see its effects on headline inflation over the next 3 months


We continue to expect the RBI to hike by another 25 bp after July 26 in the remainder of
2011, with the next hike likely by October. We do not think, as some do, that the RBI will be done
with rate hikes on July 26. Inflation and inflation expectations remain at levels so far above the
RBI’s preferred target that the central bank would want to err on the side of having done too much
rather than too little in its fight against inflation.