CB largely expected to hold rates on Thursday

• FCR pre-policy report predicts 90% probability for CB to hold rates
• Observes a trend that may force CB to hike rates to prevent overheating of economy in 2H
• Cautions further rate cuts could endanger country’s foreign exchange position
• Predicts 5-10% possibility for a rate hike from July and Aug. announcements 

Despite the ongoing COVID-19 third wave in the country, First Capital Research (FCR) is largely ruling out a possible rate cut and expects the Central Bank (CB) to hold policy rates at the fourth monetary policy review announcement of the year scheduled for this Thursday (20th).

FCR in its pre-policy analysis report predicted a 90 percent probability for the CB to hold rates with only 5 percent probability for 25bps and 50bps rate cuts.

Furthermore, FCR observed an increasing trend that may force the CB to consider a rate hike to prevent an overheating of the economy in the second half of 
the year. 

“We believe that the CBSL may consider to maintain the same policy stance in this monetary policy review as well but given the concerns around economic growth, there is a considerable low probability that the CBSL is likely to further ease its policy rates. Towards the 2H2021, we expect a probability for a rate hike in order to prevent overheating of the economy amidst the given fiscal and monetary stimulus,” it stated.

FCR pointed out that record private sector credit growth in March, ample liquidity prevailing in the system, further depreciation of the rupee due to further low interest rates and anticipated short-term economic impact from the third COVID-19 wave are likely to override arguments for a monetary policy easing.

“In contrast to the detrimental impact witnessed last year amidst the first wave of COVID-19 and the complete lockdown, the impact of the third wave appears to be lesser as the government rules out complete lockdown to ensure that the economy heals with minimal scarring. Moreover, rejuvenation of the vaccination programme and better preparation are expected to bolster the economic sentiment, despite a temporary slowdown expected in 2Q2021,” it opined. 

With the rupee deprecating 6.3 percent against the US dollar to-date, even with import controls in place, FCR cautioned that further rate cuts could endanger the country’s foreign exchange position, given the negative correlation between the two rates.

“Therefore, in order to preserve the foreign currency, which is considered to be the talk of the town, further rate cuts are unlikely,” it said.

However, FCR noted that the CB may consider a policy rate hike, as the country is projected to record lower than the targeted economic growth rate and rising treasury yields with auctions getting undersubscribed consecutively.
Meanwhile, FCR predicted 5 percent and 10 percent probabilities for monetary policy reviews scheduled for July and August, to announce a reversal of the current relaxed policy, due to the possible overheating of the economy. 

Since January this year, more countries tightened their monetary policies amidst concerns of rising inflation, as opposed to only a handful of economies easing their monetary policies, resulting in a 0.37 percent rise in global monetary on average.

In particular, U.S. Treasury Secretary Janet Yellen recently hinted at a possible rate hike to avoid overheating of the U.S economy, following the recent increase in the country’s inflation, as the economy recovers from the pandemic. (NF)