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The Street’s forecasts were mostly on target with the Reserve Bank of India’s (RBI’s), Monetary Policy Committee (MPC) increasing the benchmark interest rate predictably by 35 basis points (BPS) on Wednesday. This prompted even RBI Governor Shaktikanta Das to comment wryly whether this symmetry between market forecast and MPC’s rate action should be seen as the perfect monetary policy or otherwise. Seen differently, it could be a sign of the central bank heeding market exhortations over its internal economic analyses.

Double-edged interpretations aside, the alignment represents an unmistakable aspect of this monetary policy: it’s work-in-progress and its focus, like the past few policies, is on keeping the machine tuned. The basic facts on the ground have not changed since the last policy announcement in September-end: global headwinds arising from geopolitical tensions in Europe, inflationary pressures arising from both exogenous and endogenous sources and adverse terms of trade balanced against an economy exhibiting nascent growth signatures with all the growth engines – industrial, agricultural and service sectors – in early stages of combustion.

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But it also reveals an emerging debate within the central bank on fixing a new equilibrium setting between maintaining growth impulses and managing inflation. Arguments in previous MPC meetings have focused on where to draw the line, and whether the central bank’s successive rate actions since May run the risk of upsetting the cart. MPC member Ashima Goyal also argued in September that rate increases should be moderated now that forward-looking interest rates were already in positive territory. Yet, she voted – along with four other MPC members (with Jayanth R Varma vetoing) – in favour of increasing the repo rate to 6.25% at Wednesday’s MPC meeting.

This could be indicative that the MPC views future inflationary signals as ominous, even though the MPC statement says rather dryly that 2022-23 will end with 6.7% headline inflation and forecasts consumer inflation to remain above target well into FY24. But with inflation forecast at 5% in Q1FY24, the real interest rate from today’s standpoint looks high at 125bps and forces some questions about the reasons for the latest rate hike. However, more details about the MPC’s thinking will be available when the central bank publishes the minutes on December 21, 2022. It is also true that core inflation – inflation with food and fuel indices stripped out – remains stubbornly sticky. The increase in benchmark rates of December 7, 2022, will take time to feed through the system and eventually affect lending and deposit rates, by which time inflation could well be on a completely different trajectory altogether.

It is the portentous tone of the statement – despite the reverberating upbeat messages about demand and production factors – that has spooked markets also and led to a drop in key indices. The predominant feeling on the street is that the RBI is not yet done with inflation combat and that some more rate increases might be on the way. Higher interest rates tend to dampen realisations and margins, key metrics used by the market to assess company prospects.

But Ashima Goyal voted against (she had support from Jayanth R Varma) the MPC’s resolution to withdraw monetary accommodation which forms the second prong of the central bank’s inflation management programme. The monetary system has been in expansionary mode since pre-Covid times and the pandemic forced the central bank to become even more accommodative. The RBI has been sucking out liquidity over the past 12-15 months through a variety of operations but the overhang refuses to go away and has a direct impact on price expectations.

Goyal’s contention in September, while supporting both a 50-bps rate increase and a withdrawal of accommodation, was that the repo rate was already approaching the terminal rate and perhaps the central bank should pause, only to take stock of how the cumulative rate increases were wending their way through the system. Her decision this time to support a rate increase while proscribing tighter liquidity management, therefore, provides some space for a fresh review of economic data: the RBI cut down its growth forecast for FY23 to 6.8%, acknowledging tacitly that the growth impulses might be slowing down and perhaps the menace of future inflation is being under-estimated.

It is this quest to achieve a new balance between growth and inflation that could be impelling the central bank to fold its concerns between the lines of its policy statement; the RBI’s statements, it would seem, have been highlighting the hopes and aspirations of the economy while downplaying, or nuancing, the downsides. It then provides fresh fuel for thought about the central bank’s ties with the marketplace and whether the alignment achieved in this policy cycle is coincidental or deliberate.

The market’s now predicting – or, viewed differently, demanding – a 25-bps increase in benchmark rates over the next policy cycle. The RBI’s moves have always been closely monitored but are likely to receive greater scrutiny in the future.

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