Column: RBI might wait and watch

May 30 2014, 05:06 IST
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SummaryExisting risks to food inflation and number of unknowns suggest the RBI will stay on hold

With RBI scheduled to review its monetary stance next week, a Reuters poll showed all but three of the 52 economists polled expect RBI to stay on hold on June 3. Thatís probably a fair prediction. There is hardly a case for RBI to relax its stance at this point on grounds of inflation, even as it is anxious about growth. Besides the resurgent consumer price inflation last month, the central bank is confronted with a number of unknowns at this point. These factors suggest a deferment of any monetary action two months hence.

First, headline CPI rose in Aprilóto 8.6% from 8.3% the previous monthófrom higher food prices. Core consumer inflation was pretty much unchanged though. That is hardly any comfort to RBI. Although the fall in underlying momentum may be reassuring, indication that demand pressures are declining too slowly tie the central bankís hands. Wait-and-watch is warranted from another perspective too, viz., lagged spillovers of higher food prices. Recent research from the IMF shows that headline inflation soon passes through to core prices. Add to this the risks from a 5% below-normal monsoon forecast by the weather department. Any relaxation on inflation front can be excluded therefore.

That apart, at least three factors with significant bearing upon price developments are unknown as yet. One, the government is yet to announce minimum support prices (MSP) for agriculture this season. While some increase must already be factored into RBIís inflation projections, it is not known if these may be exceeded under a new regime. Two, any changes above the ongoing reduction in the administered-market pricesí gap in fuels are not clear so far; should the government chose a faster pace, or one-time elimination of subsidies, remains to be seen. Three, the budget is yet to be presented by the new government, so RBI cannot factor in the fiscal stance into its reaction function at the moment. It isnít known if much-needed fiscal space to increase capital spending for stimulating growth will be created by switching expenditures (from current to capital spending) or a temporary breach in planned fiscal targets. RBI will have to wait for clarity on the fiscal side.

What might it say on growth? It will note the weakness, particularly with reference to January-March GDP (due today) growth, which is likely to be 4.8% year-on-year against 4.7% previous quarter, according to consensus estimates. The central bankís discussion

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