Retail and wholesale inflation numbers released over the past few days are the latest numbers the Monetary Policy Committee (MPC) will have when it convenes for its three-day meeting on June 7. These numbers show that things are very different compared to what they were when the MPC last met in April. The benchmark inflation rate, as measured by the Consumer Price Index (CPI) had jumped above the 6% threshold — the upper limit of Reverse Bank of India (RBI)’s tolerance band — in both January and February, the latest numbers which were available to the April MPC. Between February and April, headline CPI has come down by 1.7 percentage points. Wholesale inflation went into negative territory in April. Many independent economists now believe that the expected inflation for 2023-24 could turn out to be lower than the 5.2% mark, which is what the April MPC projected. However, they are also projecting that there is a good chance of Gross Domestic Product growth also ending up below the 6.5% projection by the MPC.
What does this mean for the future direction of monetary policy? To give credit where it is due, one should acknowledge that the MPC did well to hold rates in April despite inflation numbers being above RBI’s tolerance band for two consecutive months. The March and April inflation numbers have added credibility to the view that India’s monetary policy is a forward-looking exercise rather than reacting to past numbers. If the MPC has to maintain this credibility, it must take into account the possibility that both inflation and growth can come down in the near future. While inflationary spikes in India are often driven by supply shocks, particularly in energy prices, growth, especially in recent years, has mostly been demand constrained. The single biggest obstacle to the revival of a sustained high growth phase at the moment is the (so far) elusive revival in the private capex cycle. The real policy rate is already at 1.8%, and if inflation falls further, it will only increase. This is bound to hurt the prospects of a revival in private investment, and, therefore, overall growth.
While the global economic situation and financial markets are still far from settled and RBI must not lose sight of its larger responsibility of maintaining financial stability, there is a good case for arguing that MPC’s attention should shift towards supporting growth, preferably through a rate cut and definitely via a pivot in posturing. And the sooner, the better.
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