The Swiss bank forecasts the Reserve Bank of India, which cut its benchmark rate 25 basis points (bps) to 7.25 per cent on Tuesday, to slash another 75 bps by March 2016. That's three times the median estimate in a Bloomberg survey. Governor Raghuram Rajan linked further action to rains in June to September and said astute food management is needed to mitigate inflation risks.
Finance Minister Arun Jaitley said last week that abundant grain stockpiles will help the government keep prices in check as India's 10-year bonds capped their biggest weekly loss in 14 months. Rajan has identified minimum prices for farmers' produce as a crucial factor since food accounts for almost half of the consumer-price basket in Asia's third-largest economy.
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"The government has shown the willingness to take highly unpopular measures to bring inflation down," Hartmut Issel, chief investment officer for UBS Wealth Management, said in a June 5 phone interview. "We believe the government will limit the increase in agricultural minimum support prices."
A 100-bps reduction in the April-March period will be the biggest since the financial year ended March 2009. Morgan Stanley, which predicts the repurchase rate to be lowered by 50-75 bps in the period, is among the few sharing UBS' optimism.
Modi promise
Modi, who won office in May 2014 in part on pledges that he'd rein in one of Asia's fastest inflation rates, has sold some of India's wheat stocks on the open market, pushed states to let farmers sell fruits and vegetables directly to consumers, and capped growth of guaranteed prices for cereals.
Government policy is key to keeping price pressures under control as the prospect of a poor monsoon follows unseasonal rains early this year that have already damaged wheat, mustard and vegetable crops. Agriculture accounts about 15 per cent of India's $1.9 trillion economy.
"Clearly, the biggest uncertainty at this point is the outturn of the monsoon, but also the policy reaction," Rajan told reporters at a post-policy conference on June 2.
The rate cut Tuesday was the third for calendar year 2015 and came after CPI (Consumer Price Index) rose 4.87 per cent in April from a year earlier, the least in four months. The CPI rose 5.11 per cent after March's 5.17 per cent increase.
'Well-behaved'
"Food-price inflation has remained well behaved so far," despite unseasonal rains and "this can be attributed to a host of steps that the government has taken since last year," Deutsche Bank economists Taimur Baig and Kaushik Das wrote in a Friday report. That "gives us confidence in the government's ability to tackle pressure on food prices through administrative measures," they said.
Even so, one-year interest-rate swaps show that traders are paring bets for further easing. The derivative contracts used to guard against swings in funding costs jumped eight bps last week to 7.57 per cent. The 10-year yield climbed 15 bps in the period and rose another two bps on Monday to 7.81 per cent.
Just as Rajan cut rates on June 2, the government lowered its forecast for the June-September rainfall to 88 per cent of a 50-year average, from 93 per cent in April, amid the emergence of an El Niño pattern, which causes drier weather in Asia.
"El Niño conditions will affect weather patterns in many countries this year, and India's economy is particularly vulnerable to a weak monsoon," Moody's Investors Service wrote in a report on Monday. The monsoon covered India's southern coast on Friday, almost a week later than forecast.
'Too Cautious'
Devika Mehndiratta, a Singapore-based economist at Australia & New Zealand Banking Group Ltd. says the formation of a "strong El Nino" means there's very low probability of its forecast for another 25-basis point cut in 2015 coming about. Nomura Holdings Inc. continues to see a pause on rates until December 2016.
Morgan Stanley expects India's consumer prices to slow more than the central bank estimates. It isn't building the adverse weather forecast into predictions partly because actual rainfall trends in the past have varied from initial forecasts.
The U.S. lender sees CPI inflation at 4.75 percent by March 2016 versus the RBI's forecast of 6.4 percent, aided also by the drop in global commodity prices.
"The RBI's inflation forecast for the second half of the fiscal year is too cautious," Morgan Stanley economists including Chetan Ahya in Hong Kong, wrote in a report dated June 3. "In addition, rice and wheat inventory is sufficient, which should help provide a buffer against adverse crop outlook."