Outgoing RBI governor Raghuram Rajan’s final policy review had a mildly hawkish hue with the perceived upward tilt to inflation risks retained. This is despite a firmer rupee, lower oil prices, a significant downward surprise to core inflation in June and the solid progress of this year’s monsoon since the last review.
RBI’s main concern is that high ‘spot’ food inflation combined with the impact of higher housing costs from the 7th Pay Commission could still feed a ratchet-up in inflation expectations. With the benign impact of the monsoon on food inflation likely clearer in the next few months, ‘space’ for the final rate cut we expect this cycle should open up by the RBI’s next review in October. Rajan will, of course, be long gone by then with his yet-to-be-named successor hopefully leading the newly-formed MPC.
RBI governor Raghuram Rajan’s last policy review sprang few surprises. The governor’s recent hawkish speech which both rebuked his critics and emphasised the need to maintain inflation discipline had all but ruled out action on policy settings and suggested a mildly hawkish swan-song. This proved to be the case.
As usual, the key to the richly detailed accompanying statement is the RBI’s inflation projection and,critically, its characterisation of the risks around its modal or central scenario. The RBI’s base case (i.e. most likely scenario for CPI inflation in early 2017) was predictably left at close to 5%. The risks around the mode however were still judged as skewed to the upside and so little changed from two months ago.
This is despite that since the RBI’s last Policy Review two months ago, core inflation surprised significantly to the downside in June, more than reversing upward surprises in the prior two months. Moreover, oil prices in rupee terms, a key concern two months ago, have fallen by over 12% as international prices have pulled back and the rupee has firmed by 1% vs the dollar.
The author is chief economist, Emerging Markets, BNP Paribas