The Indian central bank has stuck to its conservative policy stance and refrained from making any changes to key policy rates at its mid-quarter review on Friday. While this is in line with analysts’ expectations that the Reserve Bank of India (RBI) will not start cutting interest rates too soon as inflation remains high, it has disappointed the stock markets that expected bold move to stem the slide in economic activity.

The RBI has kept the cash reserve ratio (CRR) unchanged at 6 per cent and the policy repo rate under the liquidity adjustment facility (LAF) unchanged at 8.5 per cent. Consequently, the reverse repo rate under the LAF will remain unchanged at 7.5 per cent and the marginal standing facility (MSF) rate at 9.5 per cent. More importantly, the central bank hints that the interest rate cycle has peaked out.

While inflation remains on its projected trajectory, downside risks to growth have clearly increased, according to RBI. It has also added that further rate hikes might not be warranted and “from this point on, monetary policy actions are likely to reverse the cycle, responding to the risks to growth.”

However, it has pointed out that inflation risks remain high and inflation might quickly recur as a result of both supply and demand forces. “Also, the rupee remains under stress. The timing and magnitude of further actions will depend on a continuing assessment of how these factors shape up in the months ahead,” it has stated.

But it is not enough to assuage investors. The 30-stock benchmark index Sensex declined over 2 per cent on Friday after the policy announcement and it is now hovering around a two-year low.

Domestic economic growth has slowed down due to various factors including monetary tightening that has increased cost of credit for business, severe economic crisis in the European Union and high fuel price that has ensured that inflation remains above comfortable level.

The RBI has been an exception among central banks of other major economies – both in developed and developing worlds – as it is consistently following a tight monetary policy. In fact, it has raised policy rates over a dozen times in the past two years to fight inflation. However, it has been unsuccessful in tackling high inflation that has been buoyed by high price of food articles.

Currently, food inflation is in a comfortable zone, but overall inflation continues to be high due to high fuel prices and the backwash effect of high interest rate regime that effectively push up the cost of business, especially that of logistics.

Analysts see RBI juggling with too many policy objectives. “The central bank is in an orthodox mode, eschewing multiple instruments and objectives. Its focus is beginning to shift from inflation to growth, but the central bank seems keen on addressing one concern at a time and hence, is refraining from cutting CRR on one hand to release sizeable liquidity and not touching the repo rate to maintain vigil on inflation on the other hand,” says Deutsche Bank India economists Taimur Baig and Kausik Das in a report.

“Short of a major manifestation of systemic risks, we do not expect the central bank to cut the CRR in a hurry,” they add.

In fact, most analysts do not expect RBI to act bold and go for a rate cut before Q2 2012. This means more pain for investors as business activity that has already been on a slide would fail to recover anytime soon.

Given the lack of any aggressive policy reforms by the government, other stimulus factors also look unlikely to materialise soon. Unless there is a sharp slide in global oil prices that can start putting downward pressure on inflation, a rate cut from RBI may not happen.

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