Mumbai: For the Monetary Policy Committee that is meeting this week, the most significant event since it last assembled in June is not the Federal Reserve Chair’s commitment to cut interest rates that would guide global central banks, but the bountiful rains the country received in the past few weeks. Governor Shaktikanta Das, who has bluntly rejected the idea of towing the developed world in monetary policy making, will have a reason to change his tune on the panel’s decision on Wednesday after declining to give any signal on his actions.
He is focussed on bringing inflation down to 4% as targeted by law on a durable basis. Though there are a few known factors to fuel it again, it is still a percentage point higher. The policy interest rate is at 6.5% and the monetary stance is “withdrawal of accommodation.” Unlike the advanced economies’ inflation index that’s driven by manufacturing and services, India’s inflation index is overweight on food prices as a majority spend most of their income on food. Farm output, hence prices, is dependent on the seasonal rains. There’s some cheer on that front.
The weather department has said the southwest monsoon has covered the country six days ahead of expectations and the cumulative rainfall in June and July was 2% above long period average. That has helped kharif sowing at 905 lakh hectares, 82% of the full season and 3% higher than the year ago. While this should provide the comfort that there’s unlikely to be any sudden spike in food prices, barring a few like tomatoes and onions that could fluctuate violently irrespective of the monsoon, that may not be sufficient for the RBI to signal a forward guidance.
It has forecast CPI inflation for the year at 4.5%, with Q2 at 3.8% and subsequent quarters seeing an increase. With this based on the assumption of normal monsoon, there’s little room to reduce the forecast based on food prices alone. Assuming a normal monsoon, CPI inflation for FY25 is projected at 4.5% with the second quarter at 3.8%. That leaves little room for scaling down in the light of rise in some services rates including telecom tariffs. But a key component, real interest rate, that led to financial distortion which led to a currency crisis in 2013, is pointing to a need for the MPC to consider its second mandate, growth.
While the 7.2% forecast for the fiscal year is not low, the administration facing criticism on unemployment would aspire for a higher rate, which is possible with easier monetary conditions.
More than the state, it is the external members of the MPC who are there to ensure state pressures do not hijack monetary policy setting, who are demanding the easing of stance.
JR Varma and Ashima Goyal have been dissenting with the remaining four members of the MPC and are seeking a cut in interest rate and the stance is almost becoming irrelevant given the steep positive real rates. The central bank recently floated a research paper saying that the neutral real rate to be 1.4 to 1.9%, up from 0.8 to 1% post the Covid. “The current real policy rate of around 2% (based on projected inflation) is well above the level needed to glide inflation to its target,” Varma argues.
Ashima Goyal, external member, also believes the real rates are high as the inflation number is easing and that not reacting to it could be expensive. “Status quoism is praised as being cautious,” said Goyal in her minutes of last MPC meeting. “But if doing nothing distorts real variables it aggravates shocks instead of smoothing them and raises risk.” If RBI goes for a status quo on rates and stance, it will be a lot harder for policymakers to explain their decision.
