Taking a neutral stance and voting in favour of a rate hike, the minutes of the monetary policy committee (MPC) indicate, all the members voted for a 25 basis points hike in their June meeting, primarily because of rising fuel prices. In governor Urjit Patel’s view, given the prevailing uncertainties, it is opposite to maintain the neutral stance so as to respond to the evolving situation in a flexible manner. “The recent increase in oil prices, by impacting disposable incomes, may have some adverse impact on private consumption. On the whole, however, economic activity continues to be resilient with GDP growth for 2018-19 projected at 7.4%, same as in the April policy.
Inflation risks have increased since the April policy. I, therefore, vote for an increase in the policy repo rate by 25 basis points (bps). Key risk to inflation cited in the MPC’s April 2018 resolution has since materialised; crude oil prices have risen sharply by over 12% even as there was some moderation in recent days,” he explained. Deputy governor Viral Acharya after factoring in the rising momentum in consumer price index (CPI) ex-food, fuel and house rent allowance (HRA), said under such a scenario, any upward pressure on food prices such as through generous minimum support prices (MSPs) would exacerbate headline inflation pressures. He added, “Resultantly, the projection for medium-term headline CPI inflation has become firmer on the upside; it has moved closer to 5% and away from 4%, the latter being the mandated target of the MPC. Factoring in these considerations, there is no alternative to raising the policy rate by 25 bps so as to signal concern about underlying inflation, manage inflation expectations, and guard proactively against a further increase in inflation.
However, considerable uncertainties around oil and food prices, as well as the playing out of trade wars and global financial market outcomes, led me to keep the stance neutral. Most notably, the 3-month ahead and 12-month ahead inflation expectations have increased sharply by 90 bps and 130 bps, respectively, since the last survey. They are likely explained by the fact that petrol and diesel prices carry salience,” he said in the minutes. He also explained that the shape of Brent futures curve (now in “backwardation”, i.e., buying oil forward is cheaper than buying it in spot) suggests the markets are pricing in the risk of a “stock out” — not having access to supply when it is needed.
RBI executive director Michael Patra said continuing policy inaction is running the danger of allowing inflation outcomes to slip away from the centre of the target band. “In my view, the time has come for the MPC to act unanimously to raise the policy rate by 25 basis points in a closing sliver of opportunity. Monetary policy has to step in before it is too late and guide the economy along a non-accelerating inflation growth path. Also, the prolonged period of staying on hold is denting the credibility of the MPC’s commitment to maintaining inflation at the centre of the target band. There is a rising risk that the public may start discounting this commitment: if it begins to believe that the MPC is willing to tolerate inflation in higher reaches, inflation expectations can be set adrift. Markets and financial institutions are already getting ahead of the curve,” he observed.