April 2024 RBI MPC minutes concerned about food inflation

20 Apr 2024 , 12:58 PM

FIVE THINGS THE RBI APRIL 2024 POLICY FOCUSED ON

RBI announced the MPC minutes a full 2 weeks after the RBI monetary policy statement on April 05, 2024. The minutes published by the RBI on April 19, 2024 underscored the intent of the RBI to be cautious about inflation; especially food inflation. Let us start with a quick preview of some of the key points made in the RBI policy statement on April 05, 2024; as the backdrop to the MPC minutes. The first affirmative statement that the RBI governor did make in his post policy statement was that inflation was no longer the elephant in the room. Yes, inflation was a concern, but it was not the only concern like 18 months ago. Secondly, the Indian economy was in a Goldilocks situation of controlled inflation and robust growth even in the current scenario. RBI was in no hurry to cut rates or offer rate cut guidance!

Thirdly, RBI had underlined in its post-policy statement that the highlight of the India growth story was not the rate of growth but the resilience shown by the economy. For a $3.50 Trillion dollar economy to grow at over 8% for 3 years in a row is surely the stuff that legends are made of. Fourthly, despite pressures from some sections of industry, RBI is not too keen to even change the stance of monetary policy from “Gradual Withdrawal of Accommodation.” RBI will keep rates slightly higher to ensure that transmission of higher rates on inflation control is complete. Finally, RBI hinted that repo rates may stay above the pre-COVID equilibrium rates for a long time. Currently, the repo rates are 135 bps above the pre-COVID rate of 5.15%. The eventual RBI rate cuts would not be more than 50-75 bps.

WHAT CHANGED BETWEEN APRIL 2024 POLICY AND THE MINUTES

In a volatile global market, a lot can happen in 15 days. In fact, the last 15 days have been extremely tumultuous for global markets and for global macros. Here are 4 key events since the policy, which could have ramifications for the RBI monetary policy approach.

• Iran and Israel are now on the brink of war, which is unfortunate at a time when the Russia Ukraine war shows no sign of receding, even after more than 2 years. Any escalations of tensions in the Middle East and West Asia will not just impact the oil trade, but also global trade as the Red Sea and Straits of Hormuz are key trade routes.
• The SKYMET has projected a normal monsoon for 2024 at around 102% of the long period average (LPA). However, the heat waves already look oppressive and weather experts are apprehensive that the El Nino effect could impact the monsoons, sowing and Kharif output this year also.
• Oil, gold and rupee are 3 variables that have made some distinct shifts in the last 2 weeks. Oil hardened to above $90/bbl, while the strong dollar has pushed the USDINR to around 83.5/$. In the meanwhile, gold prices are nearing $2,400/oz and the surge in demand for gold is a sign of global panic expectations.
• Apart from these factors, the RBI has also been on wait-and-watch mode due to the ongoing central elections in India, even as it awaits the presentation of the full budget. The Fed is now veering towards just 1 rate cuts in 2024 and RBI is unlikely to be in any hurry to cut rates at this juncture.

It is in this background that the RBI published the minutes of the RBI April 2024 meeting. Here is what the six members of the RBI MPC spoke about with the summary of their observations and inferences from the macroeconomic data flows.

SHASHANK BHIDE FOCUSED ON FOOD INFLATION UNCERTAINTY

“On the inflation front, food inflation trends remain crucial to sustaining the movement of the headline inflation closer to the policy target of 4% on a durable basis. Global conditions affecting commodity prices are the other exogenous elements impacting the fuel prices and prices of other inputs. Hence, food inflation and the global supply chains remain subject to significant risks given the uncertain weather conditions and geopolitical conflicts.”

While appreciating the government on its efforts in managing the supply side inflation, Bhide underlined that India could not control most of the global risks, like what was happening in the Middle East, Red Sea, and West Asia. These could have multiplier effects on trade and also on economic activity in India; but above all, they have the potential to spike inflation. According to Bhide, it was too early to debate about rate cuts at this juncture, considering the volatile macroeconomic scenario. The focus must be on moving inflation towards the 4% mark on a durable basis. Shashank Bhide voted for status quo on rates and keeping stance as “Gradual withdrawal of Accommodation.”

ASHIMA GOYAL HAS RESERVATIONS ABOUT GIVING REPO RATE GUIDANCE

“Giving indications of the future repo rate is not compatible with data-based guidance and can create unnecessary market turbulence as it has done in the US. Policy continues to be forward-looking since it responds to how data affects published inflation and growth forecasts. Its reaction function should be enough to the markets adequate guidance.”

Goyal has focused on two important aspects of the monetary policy approach. According to Goyal, the recent fall in headline inflation has been led by a sharp fall in core inflation, which is now well below the RBI target of 4% for headline inflation. This can be attributed to supply chains normalizing. However, there is always a limit to squeezing core inflation, as beyond a point it can actually translate into slowdown in the economy.

While voting for status quo on rates and the stance of the policy, Goyal has also pointed to the risks of giving frequent guidance on repo rates. Citing the example of the US markets, Goyal has underlined how the frequent guidance through the policy statement, Fed minutes and speeches by FOMC members resulted in substantial volatility in US financial markets. She feels, such volatility is best avoided in the Indian context.

JAYANT VARMA SAYS HIGH INTEREST RATES RESULT IN GROWTH SACRIFICE

“This high real rates of interest have imposed significant costs on the economy because of the short run Phillips curve. The fact that economic growth in FY25 is projected to slow by over 50 basis points relative to FY24 is a reminder that high interest rates entail a growth sacrifice. Monetary policy should try to reduce this sacrifice while ensuring that inflation not only remains within the band, but also glides towards the target.”

Jayanth Varma has played the devil’s advocate for a fairly long time and he continues to be the sole voice of dissent in the 6-member MPC. Interestingly, Jayant Varma was the only member of the MPC to vote for a cut in rates by 25 bps from 6.50% to 6.25% as a starting point. He also differed on the monetary stance of “gradual withdrawal of accommodation.” In the current situation, according to Varma, such a monetary stance was out of sync with the economic reality. Varma also emphasized on the need to keep real rate of interest around the 1.25% to 1.50% range, which would be more of an optimal level.

In the past few policies, Varma had voted to keep policy rates constant and had skipped the vote on the monetary stance. This time around he has voted for 25 bps cut in repo rates as well as toning down the monetary stance to neutral. In fact, Varma has even pointed a causal relationship between the inordinately high real rates of interest and the GDP growth rate tapering by 50 bps in FY25. However, we would need more data points to test the hypothesis of inordinately high interest rates.

RAJIV RANJAN THINKS IT IS TOO EARLY TO SLACKEN GUARD ON INFLATION

“While monetary policy seems to be on the right track, it is too early to ease guard against inflation. It is important that we gain more confidence on our macro numbers for FY25 and their nuances. We are just at the start of fiscal year FY25. The memories of FY23 are not far behind when all our assumptions and projections got altered at short notice.”

Rajiv Ranjan represents the central bank perspective. He is right that monetary policy did go for a toss in the middle of 2022 after the Russia-Ukraine war exacerbated the inflation situation globally. It was at that point that the RBI had to resort to very aggressive rate hikes to quell the inflation bubble. Hence, from a central banking perspective, Rajiv Ranjan recommends a more cautious and calibrated approach, than rushing to buy growth.

According to Ranjan, the hallmark of monetary policy has to rely on the 3 Cs of Caution, Consistency and Credibility. At this point, the RBI is already being cautious and consistent with respect to how it deals with global and domestic inflation. But, more important, is credibility. The central bank’s credibility is largely based on how well it manages inflation expectations. In the last few quarters, inflation expectations have sobered as the RBI has built a credibility that it would not hesitate to hike rates to curb inflation. That credibility cannot be compromised, which is why Ranjan has also voted for status quo.

MICHAEL PATRA EXPECTS A SUMMER SPURT IN INFLATION

“A relatively shallow and short-lived winter trough is giving way to a build-up of price momentum as summer sets in, with forecasts of rising temperatures up to May 2024. Some global food prices are firming up in an environment of rising input costs and supply chain pressures, and likely to keep inflation on the boil.”

According to Patra, while domestic demand has expanded and the output gap has closed, the corporate sales growth and private consumption growth is still lagging. These would revive based on greater confidence that inflation was decisively moving lower. Patra feels that the big X-factors at this juncture would be food output during the Kharif season and the risks of a global oil and trade shock. In such conditions, it is best that India keeps its arsenal of rate cuts available to use in tougher times.

RBI GOVERNOR CAUTIONS AGAINST PREMATURE RATE CUTS IN INDIA

“Looking ahead, the baseline projections show inflation moderating to 4.5% in FY25 from 5.4% in FY24 and 6.7% in FY23. This success in the disinflation process should not distract us from the vulnerability of the inflation trajectory to the frequent incidences of supply side shocks; especially to food inflation due to adverse weather events and geopolitical risks.”

The RBI governor has once again underlined that the policymakers cannot afford to be sanguine about inflation, just because it has shown a downward trend in 2024. To sum up the debate, the RBI governor has pointed out that the substantial success in tapering inflation in the last 2 years had been hard-fought and hence the gains must not be frittered away. The revival in the private sector capex cycle, capacity utilization at around 74% and leverage ratios of just 0.57X for Indian corporate are signs that there is no rush to cut rates. The RBI can afford to adopt a more systematic and calibrated approach.

WHAT WE READ FROM THE APRIL RBI MPC MINUTES

The gist of the MPC minutes is that, the RBI is unlikely to be in a hurry to cut rates or turn dovish anytime in the near future. For now, there are some key milestones that the RBI will wait for. It will await the completion of general elections in May, formation of the new government, actual monsoon data in June and the full budget in July. By then there were be several data points on inflation and IIP growth as well as full year data on GDP growth and current account deficit for FY24. The RBI is unlikely to act on rate cuts before that. As the MPC members have underlined, the last mile is proving to be tough, especially with the overhang of food inflation and the chances of imported inflation amidst rising crude prices. Based on the tone of the MPC members, it looks unlikely there will be any rate cut action till we get closer to the second half of FY25.