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While the third wave of the pandemic did recede without significant economic dislocation, the conflict between Ukraine and Russia, which began in the weeks thereafter, has muddied the country's macroeconomic outlook. In its first meeting of the new financial year, the monetary policy committee (MPC) of the RBI chose to keep the benchmark repo rate unchanged at 4 per cent, while retaining its accomodative stance. However, there was a distinct shift in the tone of the policy. The central bank was more cautious in its assessment, with inflationary concerns dominating. Considering recent developments, this was to be expected. Moreover, the explicit normalisation of the effective policy corridor to pre-pandemic levels indicates a gradual but steady withdrawal of the extremely accommodative policies that the RBI had embarked upon in the early days of the pandemic.
Since the MPC’s last meeting in February, much has changed. While the third wave of the pandemic did recede without significant economic dislocation, the conflict between Ukraine and Russia, which began in the weeks thereafter, has muddied the country’s macroeconomic outlook. The sharp rise in commodity prices, crude oil in particular, has grave implications for India, which imports around 80 per cent of its oil requirements. Its effect is visible in the central bank’s assessment of the inflation trajectory and its growth outlook. The RBI has sharply raised its forecast for inflation to 5.7 per cent for 2022-23 from its earlier assessment of 4.5 per cent, which was made in the February policy. The forecast, which now assumes crude oil to average $100 per barrel, expects inflation at 6.3 per cent in the first quarter, and 5.8 per cent in the second quarter. However, considering that inflation is likely to average marginally above 6 per cent in the fourth quarter of 2021-22, the subsequent daily increase in petrol and diesel prices poses upside risks to these projections, increasing the likelihood of inflation breaching the upper threshold of the MPC’s inflation targeting framework for three consecutive quarters. This will further restrict the policy room to manouvere. On the growth front, the central bank has now lowered its forecast for this year to 7.2 per cent, down from its earlier assessment of 7.8 per cent. The quarter-wise breakup of this projection shows that the RBI now expects growth to average 11.2 per cent in the first half of the year, benefiting from the base effect, but slowing down thereafter to just above 4 per cent — in line with its pre-pandemic growth trajectory.
The policy statement suggests that the MPC is on the path to change in its stance from accomodative to neutral, probably in its next meeting in June. This is likely to be followed by multipe hikes in the benchmark repo rate through the course of the year. The pace of tightening will be determined by the trajectory of inflation.
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