RBI monetary policy: All eyes will be on the monetary policy stance

Reserve Bank of India (RBI) led – Monetary Policy Committee or MPC started its bi-annual meeting on February 6^th, 2023 and will announce the outcome on February 8^th, 2023. While consensus is baking in a 25 basis points hike in repo rate (lower than the 35 basis points hike announced in the previous meeting); voices on holding the rate at these levels are getting stronger. As of now, majority of the economists believe rate hike will be paused from April onwards, though some expect the pause could come in February itself. 

Notably, RBI has increased repo rate by 225 basis points since May 2022 to 6.25% as compared to a hike of 425 basis points implemented by the US Federal Reserve to 4.25%-4.50%.

In this scenario, we present arguments in favor of both these scenarios, citing important micro-economic indicators.

To hike or not to hike?

Retail inflation, a key metric, watched by the RBI has remained below 6% for two months in a row. It fell to a 1-year low of 5.72% in December 2022 (below consensus estimate of 5.9%). This is well within the Central Bank’s targeted comfort level of 6% for retail inflation based on the Consumer Price Index (CPI). Part of this decline, though, could be due to a favorable base effect. Excluding food and fuel, core inflation remains slightly above 6%. Thus, the coming months will reveal if these inflation numbers are sustainable which will have a bearing on the future course taken by the MPC. 

IIP growth remained subdued at 1.3% during October-November 2022; indicating that the rate hikes might be hurting economic activity. As per the Economy Survey, FY24 real GDP growth is estimated at 6-6.8%. This is below the FY23 estimated GDP growth of 7% and is partly a function of reduced exports following global slowdown. 

MPC minutes indicate that the decision on rate hike could be more divided in the form of a vote split.

Change in stance likely

Most experts believe the MPC will change its stance to ‘neutral’. Some believe, at the very least, it could drop the line ‘withdrawal of accommodation’. However, maintaining the existing stance will provide the MPC with room to respond more effectively to any adverse surprise thrown by the high-frequency macro indicators. Overall, the decision will continue to be data dependent and would also factor in the actual impact of the rate hikes done so far.