Editorial: In pause mode
One should not hope for a rate cut this financial year since inflation is set to hover above 5%
The Reserve Bank of India’s decision to keep the policy repo rate unchanged at 6.5% comes as no surprise, given the inflation scenario. One should not hope for a rate cut in this financial year since inflation is set to hover above 5%. The latest meeting of the RBI’s Monetary Policy Committee (MPC) has revised inflation upward from 5.1% to 5.4% for the financial year 2023-24. Those rooting for a cut in the interest rates must bear in mind that the central bank’s primary goal is to maintain stable inflation which is critical for sustainable growth. While monetary tightening is negative for the short term, it is important to keep inflation under control which, in turn, facilitates long-term growth. The RBI is expected to keenly observe how the inflation scenario pans out in the coming months. Any easing of monetary policy would occur only when average retail price inflation approaches the RBI’s target of 4%. If the RBI adheres to this criterion, a rate cut even by late 2024 appears unlikely. As a general rule, when the RBI is more concerned about containing inflation, it raises interest rates, thereby depressing economic activity, and when it wants to stimulate growth it brings down the interest rates. Though the fundamentals of the Indian economy are resilient and strong, rising inflation is a major cause for concern. In its June policy, the RBI had projected it at 5.2% in the second quarter. In its August meeting, it substantially revised its projection upwards to 6.2% as prices of vegetables soared in July and August.
The RBI appears to be concerned due to uneven monsoon in some parts of the country which has contributed to an increase in vegetable prices. The central bank expects that headline inflation will increase in the next couple of months. A food price-driven spike in overall inflation is likely to delay rate cuts by the central bank even if one were to expect that there will be no further hikes. This is bound to squeeze overall demand and growth rates. Another area of concern is the disproportionate impact of high food inflation on poor households who spend a much larger part of their incomes on food. If food prices continue to rise, they are likely to see a sharp erosion in purchasing power and even food security. In this scenario, monetary policy can do precious little to solve the problem. It is for the government to step in to control the situation. The RBI highlighted India’s robust economic fundamentals and sustainable growth trajectory, projecting real GDP growth for the financial year at 6.5%. Overall, the tone and tenor of the RBI’s statement is optimistic. While global growth is expected to be muted this financial year, it is encouraging that overall economic activity in the Indian context has been encouraging.
