MPC members voted for rate hike on inflation risk worry

All six members of the rate-setting monetary policy committee flagged the upside risk to retail inflation due to hardening crude oil prices to vote unanimously for a 25-basis point hike in the Reserve Bank of India’s policy repo rate to 6.25 per cent, according to the minutes of the Monetary Policy Committee Meeting held between June 4 and June 6.

The RBI hiked the repo rate (the interest rate at which it provides funds to banks to help them overcome short-term liquidity mismatches) from 6 per cent to 6.25 per cent on June 6, in its first bi-monthly monetary policy review for the current fiscal.

Chetan Ghate, Professor, Indian Statistical Institute, said CPI inflation (excluding food and fuel), which in April sustained close to 6 per cent, with strong momentum effects, is worryingly becoming the main driver of inflation. Almost all components of the consumer price index (CPI) registered upticks, suggesting that demand-pull forces are creeping into CPI headline inflation.

“The combination of cost-push and demand-pull factors at the current juncture has put one-year ahead inflation projections significantly above 4 per cent. This warrants a monetary policy response.

“However, because of uncertainty surrounding the price of oil, and the nascent recovery of the economy, it would be opportune to take small steps,” opined Ghate.

Upside risks

Pami Dua, Director, Delhi School of Economics, observed that the upside risks to inflation include geopolitical risks associated with crude oil prices, increase in other global commodity prices, implementation of HRA revisions (State governments), increase in kharif minimum support prices, fiscal slippage and a weaker Indian rupee. The downside risks include forecast of a normal monsoon and moderation in global commodity prices due to the slowdown in global growth.

Ravindra H Dholakia, Professor, Indian Institute of Management, Ahmedabad, cautioned that the impact on consumers’ inflationary expectations of an oil price increase is almost 4 to 5 times higher than the similar increase in food prices.

“Inflation rate likely to stay consistently above 4-4.5 per cent is a cause of concern, particularly when there are some upside risks...Now when the economic growth is firmly on the path of strong recovery in India, growing inflation concerns need to be addressed,” reasoned Dholakia.

Emphasising that he would imbue urgency into his vote to raise the policy rate by 25 basis points and align the operating target, Michael Debabrata Patra, Executive Director, RBI, said: “In my view, the prolonged period of staying on hold is denting the credibility of the MPC’s commitment to maintaining inflation at the centre of the target band.

“There is a rising risk that the public may start discounting this commitment: if it begins to believe that the MPC is willing to tolerate inflation in higher reaches, inflation expectations can be set adrift.”

Patra felt that the time has come for the MPC to act unanimously to raise the policy rate by 25 basis points in a closing sliver of opportunity. This will demonstrate the committee’s resolve to return inflation to the centre of the target band (4 per cent). Monetary policy has to step in before it is too late and guide the economy along a non-accelerating inflation growth path.

Viral V Acharya, Deputy Governor, RBI, observed that there is no alternative to raising the policy rate by 25 bps so as to signal concern about underlying inflation, manage inflation expectations, and guard proactively against a further increase in inflation.

However, considerable uncertainties around oil and food prices, as well as the playing out of trade wars and global financial market outcomes, led him to keep the stance neutral.

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