At the end of its three-day meeting on February 8 — its last for the current fiscal — the MPC of the RBI resolved to raise the policy repo rate by 25 basis points to 6.50 per cent by a 4-2 majority. The stance of the policy with its focus on withdrawal of accommodation was, however, kept unchanged, with dissenting votes on the part of the same two members.

The yield on 10-year G-Sec moved slightly up to around 7.35 per cent in the immediate aftermath. The equity market pared some gains after the policy release.

Pause or no pause

The MPC decisions were widely anticipated. However, a section of the market participants and analysts also expected some clear hint in the policy statements indicating a pause, going forward. This wish was not granted, though, as the RBI reiterated its unwavering commitment to bring down the still-high inflation on a durable basis.

It is possible that in doing so, the RBI was also aware of the need to avoid any misreading of its intent and constraint on its options on changing the policy rate in the coming months, given that the US Federal Reserve gave little indication that the current tightening cycle there was nearing its end after the latest increase in the policy rate by a quarter percentage point to 4.75 per cent on February 1. Also, unlike in the case of the US, the yield curve in India is still positively sloped, albeit moderately, indicating the market’s expectations of another dose of rate increase in future.

The policy resolutions and the accompanying statements broadly mirror the confidence that was evident in the Budget speech , and for good reasons. The Indian economy has weathered reasonably well the large shocks caused first by the Covid-19 pandemic in 2020-21 and then by the beginning of an all-out war in the Black Sea region about a year ago.

India’s growth performance in 2022-23, estimated at 7 per cent, would be close to the projection of 7.2 per cent made at the MPC meeting in April last year. Although CPI inflation for 2022-23 as a whole, estimated at 6.5 per cent, would be higher than 5.7 per cent as projected also in April last year, the RBI has tasted success in taming it during the last few months: CPI inflation fell to a one-year low of 5.72 per cent in December 2022. Inflation for Q3:2022-23 was actually lower than RBI’s projections. More importantly, the aggressive tightening since May 2022 involving a cumulative hike of 250 bps till date hasn’t entailed any noticeable growth sacrifice so far. The external headwinds, though a significant source of risk, have waned a bit.

Core inflation

It’s certainly a matter of significance that the RBI has recognised the criticality of core inflation in monetary policy formulation and execution. Even in the not-too-distant past, there were some avoidable doubts and even prevarications on this issue, although it is well-established that any battle against high headline CPI inflation cannot be won unless core inflation is adequately addressed. This approach is recognised in most of the major economies.

In India, despite the fall in headline inflation in recent months, core CPI inflation has remained elevated. For instance, while headline CPI inflation fell in December last year, core CPI actually rose that month to 6.08 per cent from 6.02 per cent in the previous month. At one level, sticky core CPI reflects strong demand conditions in the economy, providing a good degree of pricing power to the producers, especially in the services sector.

In the words of the RBI ‘..monetary policy has to be tailored to ensuring a durable disinflation process.’ Hence, in the days to come, one can expect a focus on core CPI inflation in policy research as also in policy formulation in the RBI. This is necessary to ensure that the headline CPI inflation generally stays closer to 4 per cent than has been the case in the last few years. A more effective framework for the monetary policy is likely to enhance the credibility of the MPC, which was tarnished a bit in November last year when it wrote a letter to the government, as required under the law, on why it failed to keep headline CPI inflation within the mandated 6 per cent for three straight quarters.

Regulatory policies

The measures announced for expanding the scope of the Trade Receivables Discounting System (TReDS) are steps in the right direction. However, whether and how fast these will result in a significant increase in the number and volume of invoices/bills of MSMEs being financed on the TReDS platforms are still open questions.

Some perspective in this regard will be helpful: In December 2022, there were 45,641 MSMEs and 3,392 buyers registered on the three TReDS platforms operating in the country. The total number of invoices/bills financed that month was 38,988 involving an aggregate sum of ₹7,444 crore. Thus, the average number of invoices/bills per MSME was less than one and the average amount of finance per buyer was a little over ₹2 crore. These are pitifully low numbers.

One of the measures announced is intended to enhance the creditworthiness of buyers from the point of view of financiers, which are largely banks. By all indications, this is not a very serious issue right now. The reluctance of a large number of private and public sector enterprises which are buyers of MSME products and services to submit to a mechanism like TReDS for timely payment of the latter’s invoices/bills is the real issue. Strangely, some large public sector companies want to participate in TReDS, but cannot do so because they are unable to process the invoices/bills for payment in time. Banks are eager for the business that TReDS promises to provide, but unfortunately the size of the cake is too small yet to attract any serious attention.

In this policy, the RBI has indicated in a forthright manner its resolve to adhere to the flexible inflation targeting mechanism that has been in place since 2016 for monetary policy setting. This stance, which seems to enjoy support at the level of the political leadership, will go a long way in enhancing macro-financial stability in India. Such a clear pronouncement was necessary for a variety of reasons, including for clearing the air as regards the basic issue of whether the mandated inflation target was 4 per cent or 6 per cent. There is hardly any need to reinvent the wheel in India: No real trade-off exists between growth and inflation. A low and stable inflation environment is a sine qua non for the sustainable growth performance of the economy.

The writer is a former central banker and a consultant to the IMF. Through The Billion Press