As central banks globally have been slow to tighten monetary policy amid inflation data at last year’s peaks, the Reserve Bank of India (RBI) is stepping in. On Wednesday, its Monetary Policy Committee (MPC) raised its repo rate by 25 basis points to 6.5%, slowing its pace from December’s hike of 35 basis points. Other policy rates increased. But our central bank did not change its stance. It remains “focussed on the return of adjustment”. In January, it almost absorbed surplus liquidity 1.6 trillion on a daily average, and the peak rate on the post-May repo tilt is ahead with at least one more hike in store. As retail inflation fell below the RBI’s 6% upper limit in the last two months of 2022 and is projected at 5.3% in 2023-24, and growth is hit hard in the next fiscal, some observers have called for a further cut in rates. With ‘neutral’ stance was expected to pause. However, as Governor Shaktikanta Das clarified, core inflation is still very stable. This fiery tone also stems from sensitivity to the role of people’s expectations. After last year’s failure on price stability, this is a well-judged emphasis. This suggests that the RBI is committed to meeting its 4% medium-term target for inflation, which is different from being satisfied with a rate below 6%. Finally, inflation targeting needs to enhance its credibility.
Certainly, if the RBI overdoes its policy withdrawal, an approach it signaled last April with its switch away from its Covid accommodation, it could put India’s economic recovery at risk. The central bank seems to be counting on the resilience of our economy. In support of this view, it cited a boom in urban consumption, as seen in passenger vehicle sales, domestic air traffic, tourism and hospitality, among other indicators. Still, at 6.4%, its GDP growth forecast for 2023-24 may be brighter than realistic, especially if flagging global growth takes a bigger toll than anticipated. If so, RBI may have to re-evaluate its policy. Right now, credit is on the rise; What matters is the investor’s confidence in getting real returns that exceed their actual cost of capital. Under today’s post-pandemic normalcy dynamics, business possibilities should drive investments rather than cheap loans, leaving room for the RBI to fulfill its legal mandate of keeping our cost of living under check Can become
Inflation needs to be kept at 4% for a sustained period after it is controlled by the RBI for it to consider itself successful. Otherwise, a rupee whose real value is faltering will lead to all-around inefficiency due to ‘money illusion’, which makes macro stability a challenge and acts as a drag on output expansion beyond the short term. What’s more, while India doesn’t have wage-push pressures like the US, the RBI has to look at the impact of the asset-yield differential with the US every time the Federal Reserve tightens its policy. This factor may also have tipped the scales in favor of a tight currency in India, as we would find imports costlier if capital outflows weakened our currency further. Thankfully, food prices have cooled recently and fuel may be benign. Last year, these items were fueled by war-led shortages and its effects worked their way up to heat up the core rate of inflation. All in all, at this juncture, the RBI has done well to continue with its monetary pressure. With the government’s fiscal deficit set to narrow slightly in 2023-24 and its borrowing plan still sizeable, the RBI’s bond market actions will serve as subtle signals of its resolve.
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