Informist, Wednesday, May 18, 2022
By Pratigya Vajpayee
MUMBAI – Exactly two weeks after the emergency rate hike by the Reserve Bank of India's Monetary Policy Committee caught markets off-guard, minutes of the off-cycle meeting have offered some answers about the motivations behind the move.
The minutes showed that the six members – Shashanka Bhide, Ashima Goyal, Jayanth R. Varma, RBI Executive Director Rajiv Ranjan, RBI Deputy Governor Michael Patra, and RBI Governor Shaktikanta Das – had more in common than just their unanimous vote to raise the repo rate by 40 basis points.
In the first hike in nearly four years, the committee increased the benchmark policy rate to 4.40%, in effect rolling back the rate cut it had delivered on May 22, 2020. The central bank also announced a 50-bps increase in the cash reserve ratio of banks, effective from May 21, a move that is expected to absorb liquidity to the tune of 870 bln rupees.
Each of the panel members was taken aback by the surge in CPI inflation in March, and none were hopeful of inflationary pressures abating anytime soon, the minutes of the meeting held on May 2 and May 4 showed.
India's annual inflation rate based on the Consumer Price Index rose to a 17-month high of 6.95% in March, primarily due to rise in prices of edible oils and fuel. This was the third straight month that the headline inflation rate breached the upper bound of the RBI's medium-term target range of 2-6%.
"The CPI inflation rate for March 2022 that became available a week after the April meeting, showed a sharp increase in the headline number and the price rise was widely spread across all the main consumption items," Bhide said in his statement.
Although the MPC had been prioritising growth over inflation for nearly two years now, the latest minutes showed that panel members have now trained their sights on their inflation target of 4%.
"Inflation is high due to multiple supply shocks following each other. Even so, in an inflation targeting regime it is necessary to respond to inflation persistently above tolerance bands in order to anchor expectations. It is also necessary to respond in order to prevent large deviations in real rates, which cause risks of overheating or of a slowdown," Goyal said.
In view of a reasonable economic recovery and the sharp rise in inflation, which will also raise inflation projections, rate hikes needed to be frontloaded, in order to prevent the real rate becoming too negative, she said.
WHY THE RUSH?
As to what prompted the MPC to reconvene within a month of its last meeting, perhaps Das' statement would be most pertinent, as Varma gave a disclaimer that MPC meetings outside the annual calendar are at the sole discretion of the RBI governor.
According to Das, events since then had led to a further deterioration in the geopolitical situation, while domestic inflation became more broad-based, warranting immediate remedial measures.
Like other committee members, Das flagged the alarming CPI print for March, and the risk posed by the surge in global food prices which are expected to persist at historically high levels. In addition, he voiced concern over a sharp rise in core inflation, hikes in electricity tariffs in multiple states, and the war in Europe stretching much longer than it was expected earlier.
"It becomes necessary to act through an offcycle policy meeting. Waiting for one month till the June MPC would mean losing that much time while war related inflationary pressures get accentuated. Further, it may necessitate a much stronger action in the June MPC which is avoidable," Das said.
Ranjan, for whom it was a debut meeting as an MPC member, said that the CPI print for March, and the projection for April showed that the inflation risks underscored in the prior meeting played out sooner than expected, warranting an off-cycle meeting.
Meanwhile, Goyal was of the view that a surprise in timing with an unannounced meeting at the start of the rate hike cycle would be better to mitigate further overreaction in markets, where bond yield spreads have been widening.
WAY FORWARD
Although MPC members were on the same page with regard to the need for an immediate policy action, their outlook on interest rates did not seem as homogenous.
In no uncertain terms, Das expressed the resolve to clamp down on inflationary pressures.
"Just as we had remained steadfastly vigilant and responded to fragilities in growth caused by the pandemic during the last two years, this time around also we will remain equally resolute and committed to bringing back inflation closer to the target through all possible instruments at our disposal," he said.
Patra advocated withdrawing the accommodation offered by low interest rates as well as the surplus liquidity, to reach a stage of "neutral accommodation".
"When it is done, we will have reached a stage of neutral accommodation – in contrast to extraordinary pandemic time accommodation – from where the next stage responses can be calibrated," he said.
Varma was more direct in his views, prescribing an over 100-bps increase in rates very soon, and expressing a preference for a 50 bps hike at the latest meeting.
According to Goyal, markets have been over-reacting to global risk and to adjustment in liquidity that started last year and have priced in excessive rate hikes.
"Since consumer demand continues to be soft, and inflation is likely to reduce it further, such excessive rate hikes may not be necessary to impose the quantum of output sacrifice required to moderate inflation," she said, adding that supply-side measures from the government could also temper the need for future rate hikes. End
Edited by Ashish Shirke
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