RBI front­loads rate hike; more on cards



ex­pected by most econ­o­mists and an­a­lysts, the Re­serve Bank of In­dia (RBI) on Wed­nes­day raised the repo rate by a quar­ter per­cent­age point to 6.5%, the se­cond such hike in two months. The move makes money more ex­pen­sive in the world’s fastest grow­ing ma­jor econ­omy, but the In­dian cen­tral bank’s mone­tary stance re­mains un­changed—neu­tral.

Log­i­cally, two suc­ces­sive rate hikes in­di­cate the be­gin­ning of a rate-hik­ing cy­cle even though there is no cer­tainty on when RBI will go for its next rate hike.

In other words, one should not read too much into its neu­tral stance; its ac­tion will de­pend on the in­com­ing data and de­vel­op­ments—both do­mes­tic and ex­ter­nal.

In some sense, it has front­loaded the rate hike to dampen in­fla­tion­ary ex­pec­ta­tions.

Re­serve Bank of In­dia deputy gover­nor Vi­ral Acharya’s com­ment at the post-mone­tary pol­icy press con­fer­ence that the im­pact of the rate hikes is felt with a lag ef­fect gives one the im­pres­sion that the next rate hike may not hap­pen too soon—not at least in the next meet­ing of RBI’S mone­tary pol­icy com­mit­tee (MPC) in Oc­to­ber. This is why bond prices ral­lied even after the rate hike an­nounce­ment. A drop in oil price dur­ing the day also con­trib­uted to the bond rally.

RBI sees too many risks and un­cer­tain­ties all around. Even though the eco­nomic ac­tiv­i­ties glob­ally con­tin­ued to main­tain steam, the pace of growth has be­come un­even and risks have in­creased on ac­count of an es­ca­lat­ing trade war which may lead to a cur­rency war, high and volatile oil prices, and tight­en­ing of fi­nan­cial con­di­tions.

On the do­mes­tic front, the south-west mon­soon has been re­cov­er­ing after a brief deficit spell in the se­cond half of June.

How­ever, there is a con­sid­er­able un­cer­tainty sur­round­ing the cen­tral govern­ment’s de­ci­sion to raise min­i­mum sup­port prices (MSPS) to at least 150% of the cost of pro­duc­tion for all kharif crops. While a part of the in­crease in MSPS, based on his­tor­i­cal trends, has been in­cluded in the RBI’S in­fla­tion pro­jec­tions, the ex­act im­pact would de­pend on the na­ture and scale of the govern­ment’s pro­cure­ment op­er­a­tions.

In­deed, the re­duc­tion in goods and ser­vices tax (GST) rates on sev­eral items will likely have some pos­i­tive im­pact on in­fla­tion but the sig­nif­i­cant rise in the so-called core in­fla­tion or non-food, non-fuel in­fla­tion has been broad, sig­nalling ris­ing in­put costs and im­prov­ing de­mand.

This is pos­si­bly why RBI has front­loaded the rate hike. Also, keep­ing all these in mind, it has raised the re­tail in­fla­tion pro­jec­tion marginally from 4.7% to 4.8% in the se­cond half of cur­rent fis­cal year and 5% in the first of next fis­cal year, 2020, with risks “evenly bal­anced”.

Its GDP (gross do­mes­tic prod­uct) growth pro­jec­tion for the cur­rent year, how­ever, re­mained un­changed at 7.4% but for the first half of next year, it has pro­jected a marginally higher 7.5% GDP growth. MPC has noted that do­mes­tic eco­nomic ac­tiv­ity has con­tin­ued to sus­tain mo­men­tum and the out­put gap has vir­tu­ally closed.

Both the pol­icy doc­u­ment as well as RBI gover­nor Ur­jit Pa­tel re­peat­edly em­pha­sized on the MPC’S ob­jec­tive of main­tain­ing the re­tail in­fla­tion target at 4% on a durable ba­sis.

Against this back­drop and the raise in pro­jec­tion of in­fla­tion in the first half of next fis­cal year and the cen­tral bank’s worry about pos­si­ble fis­cal slip­page and ru­pee de­pre­ci­a­tion, it is for cer­tain that the lat­est rate hike is not the last in Asia’s third-largest econ­omy. There will be more. How many and when are any­body’s guess at this point in time.

The neu­tral stance does not say much on the fu­ture course of ac­tion.

Tamal Bandyopadhyay, a con­sult­ing ed­i­tor at Mint, is ad­viser to Band­han Bank.

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