By Anubhuti Sahay,
Following its meeting from August 6-8, India’s Monetary Policy Committee’s (MPC) decision is likely to come amid muted expectations. The policy rate, i.e. the repo rate, is widely expected to be maintained at 6.5% and the stance retained at “withdrawal of accommodation”. The voting pattern is also likely to stay the same as the previous MPC meeting, with two members advocating a 25-basis points cut while the rest votes for a pause. Expectations are anchored around rates and the stance, as the June consumer price index (CPI) inflation bounced back above 5% after averaging 4.8% during March-May. As the MPC has already stated its focus to bring down inflation towards its medium-term target of 4% on a sustainable basis, the bounce in inflation has scaled back expectations of rate cuts anytime soon. Since 2021, CPI inflation has not sustainably remained below 5% for more than three months in succession. While the source of inflationary pressure has been shifting, the pressure on headline CPI has not eased significantly, as initially expected. Cautiousness around inflation is therefore likely to be reflected in the monetary policy statement. A comfortable growth story would provide the MPC room to stay put on rates too.
While not much action is expected from the MPC on rates/stance, the meeting is taking place amid an interestingly mixed backdrop. The minutes of the meeting, released after two weeks, will thus be important to watch.
Emerging tailwinds for an easier monetary policy are likely to keep the discussion around rate cuts alive. With a softening in US growth-inflation data and recent guidance from the Federal Reserve on potential rate cuts from September, most emerging markets are likely to be better placed to lower their policy rates.
Of course, the domestic inflation trajectory will be paramount in deciding the timing of the rate cut. But here too, a few signs of relief are emerging in India. Elevated vegetable prices, especially of tomatoes, have played a crucial role in pushing headline CPI inflation above 5% (CPI ex-vegetables has stayed subdued at an average 3.6% for six months in a row). Recent data shows a sharp 30% correction in tomato prices in the last week of July. Prices of a few other vegetable prices have softened too. Thus, headline CPI is likely to dip below 4%, driven both by lower vegetable prices and favourable base effects. Monsoon distribution has improved as well. Our indicator of rainfall deviation weighted by share of rice production at the district level shows a marginal deficit of 5-6%. Rain distribution in pulse-growing areas has also been good, and the recent pick-up in reservoir level bodes well for the winter crop. Should there be no further weather disruptions, inflation is likely to stay below 4% July onwards and into the next year.
Given the past surprises, however, no firm conclusion is likely to be drawn on the future inflation trajectory at the August meeting. The recent increase in Middle East tensions and any negative surprises from US policy direction following the November presidential elections are likely to be considered too. However, forecasts on softening inflation are likely to be maintained. We also expect inflation to ease assuming a normal monsoon enabling a shallow rate-cutting cycle later in the year.
It will be interesting to watch any statements from the MPC on real rates. The recent estimate of real rates (repo rate less forecasted CPI four quarters ahead) by the Reserve Bank of India (RBI) at 1.4-1.9% is higher than the optimal level of close to 1% as indicated by non-RBI MPC members. Any discussion on this among MPC members (to be released during the minutes) will be interesting, though the market will remain focused on the headline inflation trajectory. The RBI, while releasing its real rate estimates, flagged a wide band of uncertainties around these estimates, emphasising the need to interpret it cautiously while deciding on the monetary policy stance. Also, as three non-RBI MPC members will be replaced by October, the market will remain focused on comments from governor Shaktikanta Das and deputy governor Michael Patra.
Besides the tone of the statement, the market will watch for any guidance on managing liquidity. In July, RBI data showed two successive weeks of open-market operations (bond sales by the RBI) in the secondary market. INR liquidity surplus has increased on USD purchases in the FX market. While these can be managed via tactical tools, in our view markets will scan the statement and watch the press conference for further cues.
The author is Head, India, economic research, Standard Chartered Bank.
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