Bibtex
Endnote
RIS
The monetary policy announced today by the Reserve Bank of India has kept the policy repo rate unchanged at 6.50 per cent, which is the rate as it has been since April 2023. At a time when it can be argued that the rate could be cut to give a boost to growth, given that the RBI itself says the “horse of inflation” has been put back in the stable, the unchanged repo rate signals a cautious approach looking to some of the uncertainties on the horizon. Among them is the flare-up in the Middle-East, adding a new dose of uncertainty to the geopolitical climate and concomitant worries about energy and food prices.
The ‘neutral’ stance reflects neither an accommodative stance to stimulate growth nor a tightening stance to maintain price stability
The overall picture that stands out from the remarks and statement of the RBI Governor Shaktikanta Das is one of optimism on the one hand but caution on the other, an incongruous mix that tells us that the RBI eye remains sharply focused on inflation, and in particular the coming bump in inflation that has been forecast for the festival season even though the overall inflation outlook is benign.
In many ways, this eye on inflation is a celebration of the framework that is known by the acronym of ‘FIT’ -- Flexible Inflation Targeting under which the RBI runs the monetary policy through the Monetary Policy Committee (MPC), which has the mandate to keep inflation at 4%, within a band of two percentage points up or down, while keeping in mind growth.
The RBI eye remains sharply focused on inflation, and in particular the coming bump in inflation that has been forecast for the festival season even though the overall inflation outlook is benign
Wednesday’s policy decision comes from an MPC that has new external members, the third time in its short history that the MPC has changed members after the completion of their terms. This indicates the growing maturity of the MPC system. It is also the 51st meeting of the MPC since it was constituted on 27 June 2016 under Section 45 ZB of the RBI Act, 1934.
The decision to keep the repo rate unchanged was not unanimous; it came by a majority vote with one of the six members calling for a rate reduction. But the MPC unanimously voted to shift the stance of the monetary policy from ‘withdrawal of accommodation’ (in place since June 2022) to a ‘neutral’ stance. Technically, the ‘neutral’ stance reflects neither an accommodative stance to stimulate growth nor a tightening stance to maintain price stability.
The government should play the role of a catalyst role and private sector investment should pick up
As the RBI put it, the neutral stance provides “greater flexibility and optionality” to address the evolving global and domestic macroeconomic situation with a view to achieving price stability.
In short, the MPC resolution read in conjunction with Governor’s statement brings out clearly a robust growth outlook accompanied by a benign inflation outlook with a near term hump. The consumption demand supported by both rural demand (backed by improved agricultural outlook) and urban demand (sustained by services) coupled with momentum in the investment outlook by uptick in non-food bank credit, improved capacity utilisation, higher government infrastructure investment will help fostering economic growth. Accordingly, the real economic growth (not taking in to account inflation) is projected at 7.2 per cent in 2024-25.
The consumption demand supported by both rural demand (backed by improved agricultural outlook) and urban demand (sustained by services) coupled with momentum in the investment outlook will help fostering economic growth
Furthermore, in Q1 of 2025-26 the projected growth will be at 7.3 per cent. Even though the inflation outlook remains benign at 4.5 per cent for 2024-25 and 4.3 per cent for Q1 of 2025-26, there are some upside risks in terms of unexpected weather conditions, worsening geo-political conflicts, and potential increase in global commodity prices.
Here are a few contextual issues that stand out.
First, should economic growth be supported by government investment, leading to a higher fiscal deficit accompanied by a large revenue deficit. It should be clear that the government should play the role of a catalyst role and private sector investment should pick up. An increase in credit offtake and capacity utilisation are necessary conditions for this, but private investment to infrastructure has been lower as evident in industrial production data. It may be mentioned that there was evidence of moderation in external commercial borrowing (US$3.6 billion April–August 2024 as against US$4.3 billion a year ago). It appears that the private sector is not enthusiastic enough to take up capital expenditure.
Second, most of the countries have reduced the policy rate since the August meeting. Notable among them are the US, the Euro zone, New Zealand, Canada, South Africa. A higher interest rate in India will attract capital flows from abroad and put pressure on monetary management in terms of absorbing liquidity by the RBI.
It appears that the private sector is not enthusiastic enough to take up capital expenditure
Third, a clear message from the MPC through the adoption of a ‘neutral’ stance is a welcome move. The growth outlook is bright and inflation outlook is largely benign. The Governor emphasised that reduction in the inflation rate further needs to be monitored. While the Governor’s metaphor of keeping the inflation horse firmly bolted in the stable is welcome, there is equally a need for some forward guidance on the beginning for the policy rate cut.
A higher interest rate in India will attract capital flows from abroad and put pressure on monetary management in terms of absorbing liquidity by the RBI
If the expected inflation bump presents as just a temporary bump, then the December MPC meet will be the time when a policy rate cut of 25 basis points could be on the cards.