Mumbai: One member of the Reserve Bank of India’s (RBI) monetary policy committee (MPC) said a series of rate hikes may be warranted because of rising risks to inflation, while others hinted at a change in policy stance if those risks materialize, show minutes of the February meeting released on Wednesday.
RBI has medium-term inflation target of 4% with 2-6% as the range and maintains a neutral monetary policy stance.
RBI executive director Michael Patra, who has called for these rate hikes, was also the only panel member among six to have voted to hike policy rate by 25 basis points. The others voted to retain the repo rate at 6%. The central bank had raised its March quarter Consumer Price Index (CPI) inflation forecast to 5.1% and projected an inflation range of 5.1-5.6% in the first half of the next fiscal year.
According to Patra, it is important to recognize that the expected easing of inflation between July and March was largely statistical as the house rent allowances (HRA) effect wanes. He added that over the next few months, the upper tolerance band of 6% will come under threat, which could seriously dent the credibility of the committee’s commitment to the target.
“If the statistical reversal of the HRA effect is looked through, the real policy rate is below 1% and could fall further absent policy action. This is completely misaligned with underlying fundamentals and the economy’s prospects at a time when activity is picking up. In view of the prolonged period of status quo, a series of rate increases may be warranted to remove excessive accommodation. The time to begin is upon us," Patra said. “Fixed income markets are telling us that we have fallen behind the curve," he added.
The benchmark 10-year bond yield currently stands at 7.71%, rising 125 basis points since 2 August 2017, when the RBI had last cut repo rate.
Retail inflation slowed to 5.07% in January from 5.21% a month ago.
Gaurav Kapur, chief economist at IndusInd Bank, sees a possibility of a hike in August.
“Apart from rising oil prices and risk of imported inflation, the minimum support price increase is a threat. The MPC has acknowledged that inflation may rise above the target range. Based on these factors, I see rates to be on hold in the medium term with the possibility of a hike in August," he said.
According to Patra, several drivers of inflation are firing at the same time. These are upward adjustments of domestic fuel prices, imminent minimum support price (MSP) increases, fiscal slippage and customs duty increases.
RBI deputy governor Viral Acharya, who is also part of the MPC, said inflation risks are tilted to the upside even after excluding factors such as staggered implementation of HRA by states and MSP related announcement in the budget.
“Such an inflation scenario would imply a raise in policy rates by a pure inflation targeting central bank, in turn, implying a change in stance from “neutral" to “withdrawal of accommodation," he said.
However, Acharya said that he voted to keep rates on hold to see how inflation will shape up considering impact on oil prices in response to the shale gas production, and growth considerations. “If growth remains robust and inflation prints continue to project headline inflation a year ahead well above the target, then a change in stance from “neutral" to “withdrawal of accommodation" might have to be considered," he said.
RBI governor Urjit Patel said inflation in the baseline scenario is projected to remain above the 4% target in fiscal 2019.
“The economic recovery is also at a nascent stage and calls for a cautious approach at this juncture. I, therefore, vote for keeping the policy repo rate on hold while maintaining a neutral stance," he said.