MPC members differ on road ahead for rates, show minutes

MPC Member Jayant Varma argued that too much rate tightening will impact the growth outlook which is still on nascent recovery.

“In my view, it is dangerous to push the policy rate well above the neutral rate in an environment where the growth outlook is very fragile. While the level of economic output has recovered to pre-pandemic levels, it remains well below the pre-pandemic trend line,” said Varma who voted in favour of a 50 bps policy rate hike but voted against the majority resolution of further withdrawal of accommodation.

Last month MPC announced a 50 bps hike in the repo rate hike to 5.9%, taking the tally of rate hikes to 190 bps since May.

Varma also added that the MPC should wait and watch to see whether the policy action so far is sufficient or not.

“It does make sense to wait and watch to see whether a repo rate of around 6 percent is sufficient to glide inflation back to target. If we were to continue to tighten without a reality check, we would run the risk of overshooting the repo rate needed to achieve price stability,” said Varma

The other MPC member Ashima Goyal, who voted for a 35 bps hike, also sounded cautious on further rate hikes. She argued that keeping an interest rate differential with the US cannot be the reason for a 50 bps rate hike. Both inflation and growth had been slightly lower than last quarter RBI projections indicate that the effect of tightening was underestimated.

“Most analysts are arguing for a 50 bps rise just to preserve a spread with US policy rates. This is a fear driven over-reaction,” said Goyal. “The carry trade is not a stable source of financing. India has earned enough independence to protect itself from policy errors of other nations,” she added.

However other MPC members argued for continuation of rate hikes to tame rising inflation. RBI Deputy Governor Michael Patra for instance argued that inflation stripped of these transitory effects of supply side shocks has become unyielding and tightly range bound around the upper tolerance band of the inflation target.

“The focus should be on being time consistent in aligning inflation with the target. In this context, front-loading of monetary policy actions can keep inflation expectations firmly anchored and balance demand against supply so that core inflation pressures ease,” said Patra.

Governor Shaktikanta Das on the other hand reiterated that calibrated monetary policy action is the the need of the hour for sustaining medium-term growth prospects.

“We should be careful to ensure that an unreasonably high real interest rate does not thwart this much needed upswing of the investment cycle. Compared to the previous meeting, the upside risks to inflation have abated with a moderation in crude oil prices and continued weakness in other commodity prices,” said Das.

Retail inflation as measured by the Consumer Price Index (CPI) rose to 7.41 percent in September from 7.00 percent in August. RBI expects inflation to average at 6.7 percent in FY23.

Inflation has been outside the mandated 2-6 percent tolerance range for three consecutive quarters, which is the definition of failure under the flexible inflation targeting framework.

As per the law, the RBI must now submit a report to the central government explaining why it failed to contain inflation, the remedial actions it proposes to take, and the time period within which inflation will return to target.