RBI: on the horns of a dilemma

After changing the stance of the monetary policy in the October review meeting to ‘calibrated tightening’ from ‘neutral’, the Reserve Bank of India (RBI) under Shaktikanta Das may choose to change the stance back to ‘neutral’ again in the February review meeting, after retail inflation grew at the slowest pace in 18 months. December retail inflation came in at 2.19% on the back of softening food and fuel prices. The monetary policy committee (MPC) of the RBI decided to keep the key interest rate unchanged at 6.5% in the policy review meeting in December. Amid slowing retail inflation and sluggish economic growth, the clamour for a rate cut has gained momentum with the industry bodies, which met Mr. Das last week, suggesting a 50 basis point (bps) interest rate cut along with similar reduction in the cash reserve ratio requirements of banks. (100 basis points = 1 percentage point). “We continue to expect the RBI MPC to cut rates by 25 bps on February 7 (and 25-50 bps in 2019) with December inflation coming in at a low 2.2%, atop November’s 2.3%,” Bank of America Merrill Lynch (BofAML) said in a note to its clients. If the RBI decides to lower the interest rate, a change in stance to ‘neutral’ will only be natural. A neutral stance would mean there is a scope for interest rates to move either way, as opposed to calibrated tightening which means rates can only go up. Inflation assessment Even if the RBI is guided by headline inflation numbers for policy-making purposes, the divergence in major components of inflation creates the dilemma of whether to lower the rate or not. In a speech on Friday at the Vibrant Gujarat Summit, the RBI Governor acknowledged that the divergences and volatility among the components becomes a challenge for assessment of inflation. Some of the major components like inflation in food, fuel, and inflation excluding food and fuel, have shown wide divergences. This apart, though food inflation has turned negative since October 2018 and fuel inflation has been highly volatile, inflation, excluding food and fuel, remains sticky at close to 6%. “A change in stance is more likely now and a rate cut may have to wait for couple of months,” Soumya Kanti Ghosh, group chief economic adviser, State Bank of India told The Hindu . “RBI has said they focus on headline inflation numbers but core inflation has stayed elevated,” added Mr. Ghosh, who thinks there is only an outside chance of a rate cut.

Source : https://www.thehindu.com/todays-paper/tp-business/rbi-on-the-horns-of-a-dilemma/article26046029.ece

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