In its latest meeting (6-8 June’22) the Monetary Policy Committee (MPC) of RBI unanimously decided to hike the policy rates by another 50bps. Last month, the MPC had announced an unscheduled 40bps hike in rates. With this hike, the policy Repo Rate (rate at which RBI lends short term money to banks) is 4.90%; Standing Deposit Rate (rate at which banks can park their surplus funds with RBI) is 4.65%.
It is relevant to note that in the last rate cycle RBI had cut repo rates from 8% (January 2014) to 6% (February 2018) and then increased it to 6.5% (August 2018). In the current rate cycle, RBI cut the repo rate from 6.5% (August 2018) to 4% (May 2020) and has now started to hike it from May 2022. The consensus market view is that RBI will make another 3 hikes of total 85-110bps till December 2022 to take the rates closer to 6%.
The latest statements of the MPC and RBI governor are significant in more than one way. These statements mark a clear shift in the RBI’s monetary policy stance and highlight the current policy challenges.
In a marked shift to its reluctant stance of “calibrated tightening”, the latest resolution states, unambiguously, “The MPC also decided to remain focused on withdrawal of accommodation (emphasis supplied) to ensure that inflation remains within the target going forward, while supporting growth. However, the pretense of “growth supportive tightening” still continues.
From the statement of the governor it appears that the MPC is confident that the objective of 4% inflation could be achieved just by withdrawing accommodation and taking the rates and liquidity to the neutral level; and a need for “tightening” monetary policy stance may not arise. It implies that the RBI is presently not aiming for positive real rates. For record, the surplus liquidity with the scheduled commercial banks presently stands at Rs5.5trn; down from over Rs7.4trn in early May and Rs12trn last year. Post the CRR hike in May 2022, liquidity surplus in the banking system has thus contracted by Rs2.1trn surplus.
Till now, the RBI had been either avoiding any mention of stagflation or denying any possibility of the emergence of stagflationary conditions. However, this time in his statement, the governor admitted, “Globally, stagflation concerns are growing and are amplifying the volatility in global financial markets. This is feeding back into the real economy and further clouding the outlook.” Obviously, this admission complicates the policy framework.
The MPC has revised its FY23 average consumer price inflation target to 6.7%. It expects the inflation to peak at 7.5% in 1QFY23 and then gradually taper to 5.8% in 4QFY23. It is important to note that this 6.7% inflation target is after accounting for the impact of a series of rate hikes, fiscal measures (e.g., duty cut), and good monsoon. This target factors in the crude prices (Indian Basket) of US$105/bbl, which is marginally lower than the current price.
This implies that the RBI is fully cognizant of the fact that the current episode of high inflation is mostly supply driven and rate hikes may have limited impact on the inflation itself. The rate hikes are therefore aimed more at (i) maintain and enhancing the credibility of RBI’s policy framework; (ii) anchoring the inflationary expectations running wild and unduly disrupting the bonds and currency prices; and (iii) making a stronger case for more fiscal measures to help the growth and contain the inflation.
Clearly, the RBI is playing a multidimensional game. It has played its shot and the ball is now in the courts of Lord Indra, Mr. Vladimir Putin and Ms. Nirmala Sitharaman. A good monsoon; easing of hostilities between Russia & Ukraine; and more fiscal concessions could tame the inflation by improving domestic food supply; easing the global supply chains & restoring normalcy in the global energy markets; and easing the cost pressures on the economy.
Besides, the rates and inflation, the RBI made two more significant announcements.
Firstly, the limits of loans that the cooperative banks may extend for the personal housing has been doubled from Rs30lacs/70lacs to Rs60lacs/140lacs for TierI and Tier II cooperative banks respectively. Besides, Rural Cooperative Banks have been permitted to lend the developers of affordable housing. This shall materially improve the credit available to the real estate sector. Though, for the existing lenders, the scheduled commercial banks and housing finance companies, it may mean increased competition.
Secondly, the RBI has permitted the UPI to be linked with the RuPay Network. This means that the holders of RuPay credit cards can now make credit purchases using the UPI network. Subsequently, this facility may be extended to the other credit card networks also. This may materially enhance the access to short term credit for lower income group credit card holders; beside providing more avenues and convenience to the customers in making payments through UPI platform.
