RBI likely to hold repo rate, focus on falling inflation trajectory over the rate of inflation: Economists

India's retail inflation eased in August from a 15-month high hit in the previous month as vegetable prices cooled. As per the data released by the Ministry of Statistics and Programme Implementation on September 12, the Consumer Price Index (CPI) inflation for August dropped 61 basis points (bps) to 6.83% from 7.44% in July.

Food inflation, which accounts for nearly half of the overall basket, was up 9.94% in August compared with a rise of 11.51% in July.

Core CPI was below-5% mark for the second consecutive month and stood at 4.86% last month. It was still below the one-year average of 5.62%.

However, the headline retail inflation remained above the upper end of the Reserve Bank of India's (RBI) tolerance limit of 2-6% for a second consecutive month.

Read here: India's retail inflation eases to 6.83% in August from 15-month high peak in July; remains above RBI's tolerance band

In its August monetary policy, while keeping the repo rate unchanged, the Monetary Policy Committee (MPC) of the central bank, headed by RBI Governor Shaktikanta Das had raised CPI inflation forecast for the July-September quarter of FY24 to 6.2% from 5.2%.

Economists expect the inflationary pressures to continue to moderate going ahead and ultimately come under the RBI’s tolerance band in September.

Given the spatial distribution of monsoon and its impact on Kharif sowing and subsequently on cereals inflation, as also steep decline in LPG prices offsetting CPI by 25 bps, economists at State Bank of India (SBI) see good case for retail inflation to slouch towards RBI’s tolerance zone. 

With this easing CPI inflation, economists expect the RBI’s MPC to hold repo rates again in its October monetary policy.

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“Fiscal policy interventions helped in reducing volatility within prices of key food items like cereals, pulses and vegetables. This enabled the overall retail inflation to inch lower in August.

Monetary policy makers should get some room to continue with the pause in rate hikes, in the October meeting, assuming food prices will cool further hereon as better estimates of the Kharif crop harvest start emerging,” said Debopam Chaudhuri, Chief Economist at Piramal Group.

Nevertheless, he added, gyrations in food prices will be common during the rest of the year, as El-Nino’s impact on the Rabi crop could raise prices of wheat, sugarcane, and pulses in early 2024. 

“In my opinion, Indian monetary policy should factor in a higher food price volatility as climate change intensifies over the years,” Chaudhuri added.

Madhavi Arora, Lead Economist at Emkay Global expects the material easing seen in August CPI to 6.83%, led by a sharp reversal in perishable food prices, to continue in September, leading to a less than 6% print.

“While non-perishables are showing signs of persistence, overall food inflation is likely to reverse meaningfully in H2FY24. The stickiness in core inflation will be sustained before easing by Q4FY24, and core will undershoot headline inflation by 30-40 bps in FY24E. We see FY24E inflation at 5.2%, with the RBI to keep rates on hold ahead, and not precede the Fed in any policy reversal in CY24,” Arora said.

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Hitesh Suvarna of JM Financial believes that the RBI would be concerned with the inflation trajectory which is trending lower and not the elevated inflation rate and hence he does not expect a rate hike in the next MPC meet on October 6.

“However, we remain cautious of the deficient rainfall and depleting reservoir levels which may fuel inflationary pressures calling for tighter monetary conditions,” he said.

Assuming a CPI print of 5.6% in September 2023, he expects an upward revision of around 40 bps in RBI’s inflation projection for Q2FY24 in the upcoming MPC meet. 

Meanwhile, both European Central Bank (ECB) and Bank of England (BoE) seem ready to go ahead with a 25 bps rate hike, the US Federal Reserve is likely to hold interest rates steady in the coming policy meeting.

“US CPI print for August 2023 is expected at 3.6%, we continue to believe that the policy rates in US have peaked in this cycle and hence Fed is unlikely to hike on September 20,” Suvarna said.

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