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Time for RBI’s mea culpa on ‘inflation is transitory’ stance

Sure, the December meeting did see the RBI embark on small tweaks such as increasing the duration and quantum of variable rate repos, but the sense of urgency marking the actions of other central banks seems to be strangely (and inexplicably) missing in the Indian context. Photo: MintPremium
Sure, the December meeting did see the RBI embark on small tweaks such as increasing the duration and quantum of variable rate repos, but the sense of urgency marking the actions of other central banks seems to be strangely (and inexplicably) missing in the Indian context. Photo: Mint

  • While central banks worldwide are jostling with the question of what next, presumably, faith in Indian exceptionalism saw the MPC and the RBI opt for status quo even as its counterparts scramble to try and contain prices

“Headline inflation in several advanced economies (AEs) and emerging market economies (EMEs) has soared, prompting a number of central banks to continue tightening and others to bring forward policy normalization," said the minutes of the Reserve Bank of India’s (RBI) Monetary Policy Committee that met during 6-8 December (minutes released on 22 December). ‘Soared’ is an understatement to describe the US inflation number, released just a day after the MPC concluded its meeting, showing the US consumer price index up 6.8% in November 2021, the fastest since 1982, when the US was battling its worst inflation in history. The US is not alone. Inflation is on a tear worldwide. Both in the UK and European Union, prices are rising faster than in most living memories. The situation is no different in EMEs.

The reasons vary - from supply-side bottlenecks to rising commodity prices to lose monetary policy backed by generous fiscal support leading to the vicious cycle of higher inflation expectations leading to higher inflation. The outcome, however, is unchanged: higher prices.

While central banks worldwide are jostling with the question of what next, presumably, faith in Indian exceptionalism saw the MPC and the RBI opt for status quo (hold policy rates constant and retain the accommodative stance) even as its counterparts scramble to try and contain prices. Sure, the December meeting did see the RBI embark on small tweaks such as increasing the duration and quantum of variable rate repos, but the sense of urgency marking the actions of other central banks seems to be strangely (and inexplicably) missing in the Indian context.

Contrast the Federal Reserve chairman, Jerome Powell’s, virtual admission of making a grave error of judgement in categorizing inflation as ‘transitory’ when it quite clearly is not, with RBI’s apparent conviction that it called right in opting for status quo. This is despite the fact that consumer price inflation is bound to rise over the next few months, once the offsetting effect of high inflation in the comparable period last year (the ‘base effect’) wears off. Remember wholesale price inflation in November is at a near-record high of 14.2%. So it is only a matter of time before a high WPI feeds into higher prices at the retail level.

Yet, far from conceding that it might have erred (remember, there are no definitives in real-time macro policy formulation) in keeping monetary policy too loose and for too long, the RBI seems determined to pursue its accommodative stance, despite gathering evidence that it has, perhaps, outlived its utility. Remember, monetary policy acts with a long, often indeterminate, lag. There is no time to dilly-dally over course corrections.

Most importantly, as with everything else in life, there is a time and a place for everything, including monetary policy. A policy that made eminent sense in the early days of the pandemic when economic activity virtually ground to a halt makes little sense, and indeed might be dangerous, now when economic activity is reviving. Sure, we have the ghost of the Omicron variant looming over us, which could be a stumbling block for the ongoing economic revival. But then it might not as well! No policy, least of all monetary policy, can guard against all uncertainties.

In the ultimate analysis, all macro policy decisions are about judgement, about risk-reward trade-offs, and have to be made real-time, without the benefit of hindsight. In such a scenario, as Allianz chief economic adviser, Mohammad El-Erian, says of the US Fed, the RBI “must quickly regain control of the inflation narrative and regain its own credibility... If they catch up now, if they’re honest about their mistake and take steps now, they can still regain control of it". As economist John Maynard Keynes famously remarked, “it is better to be roughly right than precisely wrong."

 

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