Reserve Bank’s action in June hinges on April retail inflation

MUMBAI: Retail inflation data for April will shape the Reserve Bank of India’s approach to interest rate changes in June, a person aware of the development said.

The government’s National Statistical Office will release retail inflation data for April on May 12. RBI’S monetary policy committee (MPC), through its 40 basis point (bps) repo rate hike on Wednesday, decided to reverse the cut effected during the pandemic in May 2020. However, this does not mean that the 75 bps reduction in March 2020 will be reversed in June, the person said on condition of anonymity. The MPC lowered rates by an aggregate of 115 bps in response to covid-19. One basis point is 0.01%.

“Suppose the inflation number in April is benign, then the central bank can just continue with the liquidity withdrawal,” the person said.

Economists expect inflation measured by the Consumer Price Index (CPI) to be in the range of 7.4-7.6% in April. If the estimates are correct, another interest rate hike is almost certain in June. In the April monetary policy, the MPC projected inflation at 6.3% in the first three months of FY23 and the full fiscal at 5.7%.

Although the projections made in the February policy were revised in April, it still was days before the March retail inflation came in at 6.95%.

Retail inflation has stayed above RBI’S flexible target in January, February and March. Under the monetary policy framework, the central bank has to maintain retail inflation in the 2% to 6% range, with the median target of 4%. Failing to meet the target for three consecutive quarters requires RBI to write to the Union government, offering reasons and remedial measures to bring back inflation within the targeted range.

According to the person cited above, the out-of-turn rate hike was meant to counter the sudden surge in inflation that could have led to the central bank missing its inflation target for two consecutive quarters. The person added that waiting for June could have led to chunkier hikes as the inflation situation substantially worsened owing to geopolitical tensions. “The fact that the central bank has decided to do an off-cycle review only means that it wants to spread out the rate hikes, to the extent possible,” the person said.

A couple of things were behind the out-of-turn rate action on Wednesday that spooked markets. First was the unexpected March inflation data, released a few days after the 8 April policy. Second, the central bank, the person said, has been tracking data from the ministry of consumer affairs, agricultural markets and other sources to observe that prices were on the rise, even more than was earlier expected.

Alarm bells also rang when Indonesia suddenly decided to ban palm oil exports, a decision that directly affects India.