High inflation ‘major concern’, to moderate by next fiscal: RBI

Reserve Bank of India (RBI) Governor Shaktikanta Das has said as “high inflation continues to be the major concern”, time is appropriate to go for a further increase in the policy rate to effectively deal with inflation and inflation expectations, according to minutes of the Monetary Policy Committee (MPC) meeting held on June 9.

“I vote for a 50 bps increase in the repo rate which would be in line with the evolving inflation-growth dynamics and will help in mitigating the second-round effects of adverse supply shocks,” Das said.

The MPC, which hiked the policy repo rate by 50 basis points (bps) to tame inflation in its meeting, has committed to bring down the inflation to the RBI’s tolerance level.

“As our policy in recent months has been unambiguously focussed on withdrawal of accommodation, both in terms of liquidity and rates, the change in wording of stance should be seen as a continuation and fine-tuning of our recent approach,” Das said. The withdrawal of accommodation would be non-disruptive to the process of recovery and would strengthen the RBI’s ongoing efforts to combat inflation and anchor inflation expectations, he added.

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Das said the Russia-Ukraine war has globalised inflationary pressures across geographies, and there are increasing risks of long-term inflation expectations getting unanchored.

High-frequency indicators for May point to expansion in demand. This warrants some monetary policy frontload to modulate it so that even though it is not at full strength, it does not exceed the available supply. “In the process, spending will slow down, so will demand and so will the economy. The objective should be to take the repo rate to a height that is at least above the four quarters ahead forecast of inflation, knowing that monetary policy works with lag,” MPC members said.


Tolerance level

The MPC, which hiked the policy repo rate by 50 basis points to tame inflation in its meeting, has committed to bringing down inflation to the RBI’s tolerance level.

As monetary policy works through its lags, demand will inevitably get restrained and become compressed to the level of supply. Inflation will fall back to below 6 per cent by the fourth quarter of 2022-23. In 2023-24, it should moderate to 4 per cent. This is the most pragmatic result that can be hoped for under the prevailing extraordinary circumstances, RBI Deputy Governor Michael Patra said.

He added that headline inflation levels will remain high across the world for some time. Hence, the thing to watch is the direction of inflation, not its level, which will remain elevated for some time in view of the overwhelming shocks. If headline inflation starts moving down in the second half of the year, the objective of taking the policy rate above the level of future inflation will be achieved sooner than later, providing space to pause and reconfigure, Patra said.

According to MPC Member Jayanth Varma, between April and now, the MPC has raised the policy rate by 90 bps, but during the same period the RBI’s projection of inflation for the year 2022- 23 has risen by 100 bps from 5.7 per cent to 6.7 per cent. The real policy rate, therefore, remains more or less where it was in April.

“This reminds me of Lewis Carroll’s adage that we must run as fast as we can, just to stay in place, and to go anywhere we must run even faster. Clearly, more needs to be done in future meetings to bring the real policy rate to a modestly positive level consistent with the emerging inflation and growth dynamics,” Varma said.

Inflation risks flagged in the April and May resolutions of the MPC have materialised. The projections indicate that inflation is likely to remain above the upper tolerance level of 6 per cent through the first three quarters of 2022-23. Considerable uncertainty surrounds the inflation trajectory due to global growth risks and geopolitical tensions, the MPC said.

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