The monetary policy committee has failed to walk its talk

Alice lived in an age when central bank governors—Henry Lancelot Holland was governor Bank of England when Lewis Carroll’s Alice in Wonderland was published in 1865—did not make statements like they do today. There was certainly no financial media waiting to pronounce judgement on every word they uttered. Else, she might not have asked such a naïve question.

Because regardless of what they mean—as Alan Greenspan, former chairman of the US Federal Reserve, famously told a reporter, “I know you think you understand what you thought I said, but I’m not sure you realize that what you heard is not what I meant"—central banks’ heads have the amazing ability to make words mean different things. There is also no doubt who is master.

And so it is with Governor Shaktikanta Das of the Reserve Bank of India (RBI). According to him, “The recovery of the Indian economy is gaining traction… India is in a much better place today than at the time of the last Monetary Policy Committee (MPC) meeting" and growth impulses seem to be “strengthening".

Logically, therefore, one would expect his statement on the policy stance to reflect this improvement. But take a careful look at his statement of 8 October, after the last meeting of the MPC. Policy, said the governor, will remain accommodative “as long as necessary to revive and sustain growth on a durable basis and continue to mitigate the impact of covid-19 on the economy, while ensuring that inflation remains within the target going forward."

Re-wind to his statement after the MPC meeting in August. Policy will remain accommodative “as long as necessary to revive and sustain growth on a durable basis and continue to mitigate the impact of covid-19 on the economy, while ensuring that inflation remains within the target going forward." Spot the difference? Surprise, surprise! There is none!

Yet, according to RBI, “High-frequency indicators for Q2:2021-22 suggest economic recovery has gained momentum," Finance Minister Nirmala Sitharaman, is on record that the economy is on a “sustained path of revival" and international rating agency Moody’s has revised its rating outlook for India from negative to stable.

All this should be reason enough for the MPC to re-think its growth-inflation trade off and focus on inflation, rather than growth. More so since monetary policy acts with a long and indeterminable lag. Consider. Growth in the second quarter (Q2) has been revised upwards to 7.9% from 7.3% in the August policy statement, Q3 to 6.8% from 6.3% earlier, and Q4 growth has been held unchanged at 6.1%, while growth for the year has been retained at 9.5%. Meanwhile core inflation remains “sticky" and “elevated global crude oil and other commodity prices, combined with acute shortage of key industrial components and high logistics costs, are adding to input cost pressures."

Yet, the only action that RBI took was to end its G-SAP (government securities acquisition programme) under which it was infusing liquidity into a system already replete with liquidity. And though this was accompanied by a VRRR (variable rate reverse repo) auction calendar, ironically, the governor took pains to say auctions to drain liquidity should not be interpreted as a “reversal of the accommodative policy stance."

So, why the disconnect between commentary and action? Even if the economy still needs policy support, does it really need as much support as during the peak of the covid pandemic? The answer is an emphatic no.

Remember, RBI took emergency measures during the pandemic. It widened the repo and reverse repo rate corridor to 65 basis points from the normal 25 and pushed the effective overnight rate closer to the reverse repo rate, rather than the repo rate, which is the MPC’s mandate. It also injected liquidity—as much as ₹2.37 trillion into the system during the first six months of this fiscal as against ₹3.11 trillion over the full financial year 2020-21.

Yes, “liquidity conditions emanating from the exceptional measures instituted during the crisis would need to evolve in sync with the macroeconomic developments to preserve financial stability." Yes, this “process has to be gradual, calibrated and non-disruptive, while remaining supportive of the economic recovery." But stopping G-SAPs is not enough. The danger is that when the descent is delayed, as at present, it may not have the luxury of a smooth glide path. It may be compelled to force land.

Recall what the sole dissenting voice in the MPC’s August meeting, Jayant Varma, had said: “The balance of risk and reward is gradually shifting, and this merits a hard look at the accommodative stance… Easy money today could lead to high interest rates tomorrow."

The point Varma was trying to make is that a policy appropriate in the early days of the pandemic may no longer be appropriate today when inflationary pressures show signs of greater persistence than earlier. His words ring truer today than in August.

Mythili Bhusnurmath is a senior journalist and former central banker