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The Reserve Bank of India (RBI) is expected to hold the key rate at its monetary policy review next month but may opt for a 25 bps cut in August, says a Bank of America Merrill Lynch (BofAML) report.
The global brokerage cited three reasons for the central bank to cut rates in August. First, the growth remains weak, second, inflation remains within RBI's 2-6 per cent range and a rate cut would help RBI to recoup forex reserves.
"As it has just hardened its stance, the RBI will likely wait for transfer of the 'special' dividend to the fiscal from demonetisation and good rains before cutting in August," BofAML said in a research note.
It noted that gross domestic product (GDP) growth based on old series is running at 4.5-5 per cent, well below its estimated 7 per cent potential.
Inflation, it said, would average 4 per cent in the first half of 2017.
A rate cut, it added, would help attract foreign portfolio investors (FPI) in equity flows by supporting growth.
"We continue to expect RBI monetary policy committee to pause on June 6 and cut rates by 25 bps in August," it said.
The RBI in its monetary policy review meet on April 6 kept the repurchase or repo rate — at which it lends to banks — unchanged at 6.25 per cent but increased reverse repo rate to 6 per cent from 5.75 per cent.
On rupee, the report said that although the domestic currency has strengthened to 64/USD level, going forward seasonality will turn against it and it might depreciate to some extent.
"While INR has strengthened to Rs 64/USD, seasonality will turn against it in coming weeks. Our Asia forex strategists see Rs 66.75/USD by December," it noted.
