Inflation clouds growth dreams

RBI-MPC’s conservative stance on interest rate suggests that its focus is on keeping inflation low ahead of general election

The global economy is stuttering but the Indian economy is resilient. Data shows that the 2.5 percentage points increase in the policy interest rate effected between June 2022 and February 2023, has not been entirely transmitted by banks. Meanwhile, core inflation is declining, even as food inflation remains high, and overall inflation remains well above the upper tolerance band of the central bank. And both food and fuel prices could witness more volatility in the months to come.

With the next review meeting of RBI’s MPC only in December, much will depend on demand, urban and rural, in the ongoing festive season (REPRESENTATIVE PHOTO)

This is the reasoning behind the decision of the Monetary Policy Committee of the Reserve Bank of India (RBI) to keep the policy interest rate unchanged at 6.5%, and its policy stance on the withdrawal of accommodation. This is the fourth straight monetary policy review in which RBI has kept the rate unchanged, but reading between the lines, it is clear that the central bank is more worried about inflation than it is about growth. It has increased its second quarter (July-September) retail inflation estimate to 6.4% from 6.2%, although it has kept its projection for inflation for the entire year unchanged at 5.4%. It expects third quarter inflation to come down from the previously estimated 5.7% to 5.6% and has kept fourth quarter inflation unchanged at 5.2%. Finally, it has projected inflation at 5.2% in the first quarter of 2024-25 (April-June). RBI’s projection for second quarter inflation, and the fact that the print will reflect the impact of the cut in the price of LPG cylinders in late August, mean that September inflation, which will be released next week, will almost definitely show a significant drop from the previous month’s 6.8%. The trajectory of estimates points to the central bank meeting its target only sometime in 2024-25.

Given that RBI governor Shaktikanta Das has repeatedly stressed that the inflation target is 4%, and not 4% plus or minus 2%, and the possible threats on the horizon (Das’s statement lists pulses and onion production, global energy prices, and the El Nino phenomenon as risks), it can now be said with a reasonable level of certitude that there is unlikely to be a cut in the policy interest rate before the national election next summer. A cut would have been cheered both by industry and the middle class, which has seen mortgages becoming more expensive. On growth, RBI is more sanguine and has retained its estimate of 6.5% for the year, with government spending and urban demand driving the economic engine, as they have for some time. While the central bank suggests that private investment and rural demand may both be rising, there still isn’t enough in the numbers to show this. Indeed, anecdotal reports as well as the performance of some consumer product companies in rural markets show that rural demand is yet to pick up. To be sure, India has negotiated its economic challenges far better than many other countries.

With the next review meeting of RBI’s MPC only in December, much will depend on demand, urban and rural, in the ongoing festive season — demand usually peaks during this period, especially around Deepavali, which falls in November this year — and the performance of the kharif (or monsoon sown) agricultural season. Much will also depend on the direction of global crude prices; the current trend points southward, on the back of fears over declining demand and rising stockpiles.