A need for right policy mix
Since the RBI’S first Monetary Policy Committee (MPC) meeting for FY22 in April, the global and domestic economic scenes have changed significantly. The outlook for major economies, especially the US and China, has brightened and commodity prices have escalated on demand optimism. There is a growing concern this may make their central banks rethink their accommodative policy stance, sooner than later.
On the contrary, the domestic economic scene has worsened due to the second wave of Covid-19. Many highfrequency indicators reflecting overall investment and consumption sentiments have shown significant deterioration in April-may 2021. On the other hand, WPI inflation has accelerated to 10.5 per cent in April and CPI inflation is likely to follow suit due to the build-up of cost pressures and the disruptions in domestic supply chains.
Will this prompt the MPC to revise its growth and inflation projections for FY22? I don’t think so. There is still a lot of uncertainty over the path of the virus and policymakers are still responding to the latest outbreak with countervailing measures. Hence, the MPC will adopt a waitand-watch approach. Even if CPI inflation makes a comeback in the interim, the MPC will look through it until vaccination is well advanced and the recovery shows signs of sustainability.
As India’s early-stage recovery has been derailed by the second wave, the MPC will continue to focus on growth and maintain the status quo on policy rates and liquidity stance. The MPC’S suggestions and the RBI’S subsequent actions will ensure that yields on government securities remain capped, lenders and borrowers continue to get cheaper funds and both enjoy regulatory relief due to the ongoing turbulence.
Will the monetary policy statement end here? I don’t think so. In its forward guidance as well as in the press conference, the RBI will reiterate the need for the right policy mix.
In the past 14 months, the RBI’S easy monetary policy, massive liquidity provision and targeted liquidity/regulatory support to the stressed sectors have helped in stabilising financial conditions. But this is not enough for growth to happen. Despite the benign interest rate environment, overall demand for credit remains muted due to economic uncertainty. In such circumstances, the fiscal policy has to intervene with force and break the “paradox of thrift” in the private sector by undertaking targeted spending in growth-supportive segments like agriculture & allied activities, infrastructure, MSMES and employment generating export industries. Also, to reduce the immediate economic stresses, there is an urgent need for fiscal measures like direct cash transfers, enhanced allocation under MGNREGA and PM-KISAN, free food grain distribution, modest cuts in excise duty on fuels and expedited vaccination.
While the monetary and regulatory policy can provide support through easy money conditions and regulatory forbearance, it is the fiscal policy that has to play an active role in supporting the economy by directly improving the investment and consumption confidence. Only a stronger vaccination drive and growth revival through targeted fiscal spending will help India achieve macro stability. The RBI may give this message loud and clear in the upcoming policy.