Mumbai: The two monetary policy committee (MPC) members who voted to cut interest rates and change monetary policy stance at its last meeting believe the Indian economy needs to grow at joined its potential growth of 8%, as inflation continues to approach the target of 4%. The MPC had voted to keep repo rate unchanged at 6.5% for the eighth consecutive time in its June meeting.
Jayanth Varma, who had been voting for a rate cut since February this year, argues that MPC should start cutting rates this quarter to give a boost to growth in FY26.
In an emailed interview, Varma said the goal should be to add 75-100 basis points to the FY26 growth rate.
“I do not think anything that we do with monetary policy now will have much impact on the growth rate in 2024-25. This is because monetary policy acts with a lag of 3-5 quarters. The task now is to bolster growth in 2025-26, and even for that, we need to start acting in this quarter. In my view, the goal should be to add 75-100 basis points to the 2025-26 growth rate,” said Varma.
India’s GDP grew a sharp 8.2% in FY24, supported by strong January-March quarter growth of 7.8%. The push to GDP growth came from several key sectors including manufacturing, construction, mining and services sectors.
“India is at a point in the demographic transition where we need to grow rapidly to meet the aspirations of the new entrants into the work force. Finally, there is a lot of catch-up growth required to bring the level of GDP back to the pre pandemic trend line,” Varma added.
While the MPC has not given made a growth projection for FY26, it expects GDP growth at 7.2% for FY25, lower than 8% growth seen in the previous fiscal.
‘No new supply shocks’
The other MPC member Ashima Goyal, who voted for a rate cut for the first time in the last policy, believes the approach to inflation target has not been affected by any new supply shocks since the last policy. She argues that maintaining status quo for too long will result in keeping real repo rate higher than necessary.
“In the April policy, the possibility of new supply shocks was high and I was waiting to see their impact. International oil prices were rising, there was uncertainty related to the monsoon, impact of heat waves and elections. Most of these are resolved without creating new supply shocks. The heat wave has had less than expected impact on food prices,” said Goyal. “If inflation continues to fall and expected inflation is approaching the target with growth at 8%, it means we can safely grow at such rates,” she added.
The policy minutes released on Friday revealed a wide divergence in views between MPC’s key external members and the three RBI members. While RBI members consider it appropriate to take the leeway provided by strong growth to focus on bringing inflation down durably, the dissenting external members argued that it is time to prioritize growth as economy is growing at below its potential growth rate.
According to the minutes, Varma argued that keeping 2% real interest rate – difference between repo rate of 6.5% and inflation of 4.5% – for too long will hurt growth for next two years.
Agree on inflation target
That said, both Varma and Goyal agree that a 4% inflation target can be achieved on a sustainable basis.
“Yes; as expectations converge to the target and it is also internalized by price regulators, 4% target can be sustained. As the economy diversifies and deepens, supply shocks become less volatile and have reduced impact. We have seen some of this over the past year,” said Goyal in her interview.
According to Varma, “The disagreement is only about the pace at which this last-mile disinflation should be carried out. My position is that since the excess over the target is small, we can be more relaxed about the pace so as to reduce the growth sacrifice.