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Informist, Thursday, Aug 22, 2024

 

By Pratiksha

 

NEW DELHI – The minutes of the Monetary Policy Committee meeting, held earlier this month, saw members of the Reserve Bank of India firmly focused on inflation, particularly food inflation. Meanwhile, the two dissenting external members voiced concerns about growth at their last policy meeting.

 

The message from the RBI members was clear--food prices remain high, and headline inflation is above the 4% target. Thus, monetary policy needs to be actively disinflationary and the repo rate needs to be where it is right now--at 6.50%.

 

On Aug 8, the rate-setting panel voted by a 4-2 majority to keep the repo rate unchanged at 6.50%. It also decided to maintain the "withdrawal of accommodation" stance to ensure that inflation progressively aligns with the RBI's target while supporting growth. This was the ninth straight policy meeting with a status quo on rates and stance.

 

"The wedge between headline and food inflation has been widening, and stalling the alignment of the former with the target," RBI Deputy Governor Michael Debabrata Patra said. "Taking into account double-digit inflation in salient food categories such as cereals, pulses, spices, and vegetables for several months, empirical evidence points to a rise in the time varying persistence of food inflation, i.e., it is taking longer to revert to its trend after a shock." 

 

CPI inflation fell to a 59-month low of 3.54% in July, mainly on account of the statistical effect of a high base. This is the first time CPI inflation fell below the RBI's target of 4% since September 2019. Food inflation fell to a 13-month low of 5.42% in July, also mainly because of a base effect. On a sequential basis, the food price index rose 2.8% in July.

 

In its August policy outcome, the RBI raised its CPI inflation forecast for Jul-Sep by 60 basis points to 4.4% while retaining the inflation projection for the current financial year at 4.5%.

 

All three members from the RBI on the rate-setting panel sounded a note of caution about persistent food inflation. RBI Executive Director Rajiv Ranjan said these pressures cannot be ignored, considering the high share of food in the household consumption basket and the risk of spillover to non-food core CPI components. He said a decline in food inflation over the course of the year could open the window to monetary policy easing, but more clarity and definiteness is needed on the food inflation outlook, among other factors.

 

External member Ashima Goyal argued that vegetable price inflation is transient, lower than last year, and already correcting with the good monsoon. Also, supply chains seem to be improving, she said.

 

Today, the finance ministry said in its Monthly Economic Review for July that the steady progress of the southwest monsoon has supported kharif sowing and helped to replenish water levels in reservoirs, which bodes well for the current kharif and upcoming rabi crop output. This will further help in reducing food inflation in the coming months, the ministry said.

 

Most members also highlighted that resilient growth gives the rate-setting panel the space to focus on inflation and maintain the status quo. "At such a crucial juncture, steady growth impulses are allowing monetary policy to unambiguously focus on supporting a sustained descent of inflation to the target," RBI Governor Shaktikanta Das said.

 

The two dissenters--Goyal and fellow external member Jayanth R. Varma--said, however, that Indian growth, while resilient, is still below potential. "Even if growth is high, it has to rise to its full potential," Goyal said. "A falling trend and low core inflation indicate growth is below potential, implying real rates are above the neutral interest rate and there is scope to reduce the repo rate and raise growth."

 

While Varma has been voting for a change in policy stance and a repo rate cut of 25 bps since February, Goyal voted for the same at the last two policy meetings.

 

Varma said it was 'depressing' that India’s projected growth rates for 2024-25 (Apr-Mar) and 2025-26 are significantly lower than what is possible. According to him, the economy has the potential to grow by at least 8% per annum. The RBI has projected GDP growth for the current financial year at 7.2%. In its report released in April, the central bank estimated real GDP growth of 7% for 2025-26.

 

The governor, however, said that with a forecast of 4.5% headline inflation for the current financial year, the present repo rate is broadly in balance and avoids costly sacrifice of domestic economic activity.

 

Reiterating his view of the neutral interest rate being an abstract, theoretical, model-specific construct that is unobservable and varying with time, Das said the issue of an equilibrium natural interest rate is premature, and any justification for policy easing based on so-called high real rates can be misleading, he said. The real interest rate is the rate of return over and above the expected rate of inflation in an economy.

 

Varma, however, believes a real interest rate of 1.5% is sufficiently restrictive in this environment and a reduction of over 50 bps in the repo rate is needed within a short period.

 

The August policy meeting marked the end of the term of the three external members of the Monetary Policy Committee. A new set of external members will take their place at the next meeting in October, when there may also be a shift in the panel's thinking.  End

 

Edited by Rajeev Pai

 

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