RBI’s Tightrope

After the release of the May inflation data, there was much debate over the stance of monetary policy in India. Several analysts expected that the sharp spurt in inflation — the consumer price index had risen to a six-month high of 6.3 per cent in May, up from 4.3 per cent in April — would force the Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI) to reassess the timing of its pivot towards policy normalisation. But the signals from the MPC suggested that it will continue to attach primacy to growth considerations. The status quo on both, the benchmark policy rate and the accommodative stance, will be maintained as the MPC will look through the spurt in inflation in the near term, treating it as transitory in nature. The latest data which shows that, contrary to expectations, retail inflation actually eased marginally in June, seems to justify the MPC’s stance of maintaining the status quo.

Data released by the National Statistical Office (NSO) shows that headline retail inflation eased to 6.26 per cent in June. Moreover, core inflation, which excludes volatile food and fuel prices, and has remained sticky so far, also moderated to 6.19 per cent. Notwithstanding this lower print, however, inflation remained above the upper threshold of the monetary policy committee’s inflation targeting framework for the second straight month. This higher than expected figure also implies that the RBI will have to reassess its inflation trajectory. In the June MPC meeting, retail inflation was projected to average 5.2 per cent in the first quarter (the average inflation for the first three months now stands at 5.62 actual), and 5.1 per cent for the entire financial year.

After the last policy meeting, RBI Governor Shaktikanta Das had argued that it was premature to talk of policy normalisation. But the RBI should be mindful of the risks. While much of the recent spurt in inflation stems from supply-side disruptions owing to the imposition of restrictions on economic activities, it is likely that inflation may prove to be sticky on the downside, even as restrictions ease. With a significant section of the eligible population likely to be vaccinated by the second half of the year, household demand, especially for the contact intensive services, is likely to firm up, which along with higher commodity prices, could push up inflation. If inflation continues to remain elevated in the period ahead, the MPC members will find it hard to defend looking through high inflation readings. The MPC has to walk the tightrope between growth considerations and keeping a close watch on inflation.