In his testimony before the US Congress, US Fed chairman Jerome Powell had said he would be open to increasing the pace of rate hike, taking the terminal rate higher than previously anticipated. But that was before the Silicon Valley Bank crisis; now, Goldman Sachs believes there will be no increase in rates in March. But regardless of the action that Fed takes, India’s Monetary Policy Committee (MPC) must focus on local factors when it meets in early April. It must step back to assess the impact of the 250-basis-points-hike in rates and the effective tightening of 325 bps since April last year. If the 6%-plus inflation in January and February worried it, the MPC must draw comfort from the fall in crude oil prices to $75 per barrel. And rather than focus on current price levels, it must work with projections for the coming year which suggest inflation would hover around 5%. This, rather than 4%, should be good enough for a pause until there is a sustained pick-up in growth. Any further hikes would mean risking an overshooting on real interest rates.
The signs are good. For one, core inflation moderated in February to 6.1% from 6.2% in January, and the underlying momentum is decelerating although it is taking its time to do so. The outlook on food inflation is also comforting and the wheat crop looks like it will be spared a heatwave even as the US exports of the grain are tipped to be at all-time highs. To be sure, prices of milk could go up and vegetables are always tricky. But the pass-through of higher input costs by companies to consumers is almost over and this is probably be true for housing too, where prices have ticked up following rising costs of steel and other materials. Even if inflation was to come in higher due to a poor monsoon—the OECD believes it could trend up to 5.8%—the MPC must ignore that because the risks to growth now significantly outweigh those to inflation. The Reserve Bank of India (RBI) might estimate the economy will grow at 6.4% next year, but the IMF’s forecast is 6.1%, the OECD’s 5.9% and Nomura economist Sonal Varma projects just 5.3%.
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The gross domestic product (GDP) in the December 2022 quarter grew at just 4.4% y-o-y, a three-quarter low, which is deeply worrying for what is typically a strong season. The rise in private consumption slowed to just 2.1% y-o-y, a notable deceleration from 9.7% in Q2FY23, and both data and corporate commentary point to a tapering off of pent-up demand post the festive and wedding seasons. Interest rates on loans are becoming unaffordable—State Bank of India’s benchmark prime lending rate is nudging 15%—especially for smaller businesses and would deter meaningful investment. It is unlikely government spending, which is already moderating, can support the economy next year. If domestic factors aren’t helping, the spillover effects of the slowdown in the Western economies can also hurt. While total exports have grown at just 6.8% this year, non-oil exports are flat. Labour-intensive segments such as gems and jewellery have fared poorly, as has engineering goods. Unemployment remains elevated both in urban and rural India, and needs construction and manufacturing activity to pick up. RBI