On 4 June A No-Action Policy By Reserve Bank With Focus On Growth

Indian central bank’s rate-setting body, the Monetary Policy Committee (MPC), will hold its second meeting of the current fiscal year this week. At its first meeting in April, the six-member MPC unanimously kept the policy rates unchanged – at its historic low. It also continued with its accommodative stance with a subtle change.

Till the last MPC meeting of fiscal year 2021, held in February, the Reserve Bank of India (RBI) had been giving a long forward guidance – to continue with its accommodative stance as long as necessary. In April, it moved away from time-based guidance to data-based one – accommodation till the prospects of sustained recovery are well secured.

What do we expect the RBI to announce on the morning of June 4, at the end of the three-day MPC meeting?

It’s elementary, my dear reader. A no-action policy. The focus is on growth, growth and growth. Let inflation peep in. It’s time to ignore that.

Since the April policy, the macro-economic scenario has turned worse. Inflation has been on the rise and growth is under attack from the second wave of the Covid-19 pandemic, which has caught Asia’s third-largest economy off guard.

In April, the wholesale price inflation climbed to an 11-year high of 10.49 per cent, after an eight-year high of 7.39 per cent in March. Analysts say it has not peaked yet. The wholesale inflation was 4.17 per cent in February and 2.03 per cent in January. 

India's consumer price index-based retail inflation, in contrast, eased to 4.29 per cent in April from 5.52 per cent in March, primarily due to reduction in food prices. This has been the fifth consecutive month when it has come within the upper band of the central bank’s inflation mandate. 

The RBI tracks retail inflation. It needs to maintain retail inflation at 4 per cent with a 2 per cent band on either side for five years, till March 2026.

Even though retail inflation has been easing, the so-called core or non-food, non-oil inflation remains stubborn. Indeed, a normal monsoon is on the horizon but analysts tracking the global commodity prices see the retail inflation rising.

Will it have an immediate impact on the RBI policy? That’s highly unlikely.

The RBI annual report, released last week, says the retail inflation trajectory will have both upside and downside pressures but is expected to average 5 per cent during the current fiscal year – 5 per cent in the first half of the year, followed by 4.4 per cent in the third quarter and  5.1 per cent in the fourth quarter. This is a repeat of what the RBI’s April policy had said.

If we treat the annual report, released just a week ahead of the June policy, as a curtain raiser for the  policy, the RBI’s primary focus will be on growth.

We can take it for granted that the RBI will give a cold shoulder to rising wholesale price-based inflation for the time being and maintain its accommodating monetary stance, promising ample liquidity in the system. But I am not sure whether the central bank will be in a rush to pare its growth projection for the current fiscal year.

Since the February MPC meeting, it has been maintaining the projection for real GDP growth for 2021-22 at 10.5 per cent – 26.2 per cent in the first quarter; 8.3 per cent in the second; 5.4 per cent in third; and 6.2 per cent in the fourth. Despite the disruption in the economy on account of the second wave of the pandemic, the annual report has stuck to the same projection even though every analyst and her aunt have been paring it.

Will the RBI wait and watch before cutting its growth projection like many other agencies or revise it downwards this week to 9.5-10 per cent? My guess is that the RBI may choose to wait till the August MPC meeting to cut it to a single digit. For the time being, it will bank on upsides from capital expenditure, rising capacity utilisation and swelling imports of capital goods.

The annual report has committed comfortable systemic liquidity in the current year in sync with the accommodative policy stance. It has taken note of the “salutary effect” of its secondary market government securities acquisition programme, or G-SAP 1.0, on bond yields. The 10-year bond yield remains at sub-6 per cent level, for months now.

In the first two months of the year, the government has raised Rs2.1 trillion, 17.5 per cent of the budgeted market borrowing plan for the entire year. In absolute terms, it is 55 per cent more than the corresponding period of last year. And yet, the bond yields are not running away because of the Rs1 trillion G-SAP 1.0 programme in the first quarter.

One can presume G-Sap 2.0 is round the corner, for another Rs1 trillion bond buying by the RBI.

Can we expect certain regulatory measures to help banks tide over the impact of the pandemic on the community of borrowers, particularly the small and medium units? The RBI announced a package in the first week of May but more needs to be done. Come September, some of the banks will be exposed. But the central bank may choose to wait and watch as the finance ministry extended the scope and tenure of the emergency credit line guarantee scheme over the weekend.

While regulatory measures can be announced outside the policy, for now, I am curious whether the RBI will stick to its 10.5 per cent GDP growth projection for the year. If yes, when will it start draining out surplus liquidity from the system?

The annual report gives a somewhat contradictory message on this.

The chapter on “Monetary Policy Operations” ends by saying, the “policy will monitor closely all threats to price stability to anchor broader macroeconomic and financial stability while continuing with the accommodative stance”.

However, the chapter on “Financial Markets and Foreign Exchange Management” talks about “unwinding”: “Going forward, unwinding of monetary stimulus through a well-calibrated and sequenced manner is needed to nurture green shoots until recovery gains traction.”

I don’t see “unwinding” happening before the third quarter even if we don’t mess up in tackling the third wave of Covid, if it hits us. And, the rate hike may have to wait for next year. 

This column first appeared in Business Standard.

To read his previous columns, please log on to www.bankerstrust.in

The writer, a consulting editor with Business Standard, is an author and senior adviser to Jana Small Finance Bank Ltd

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