It has been nearly 20 months and yet the RBI’s Monetary Policy Committee (MPC) has kept its policy rates unchanged for the 10th consecutive time, as expected. However, the MPC did move, and it changed its policy stance to ‘Neutral’ unanimously. The RBI emphasised the need to ‘remain unambiguously focused on a durable alignment of inflation with the target, while supporting growth.’
One way to look at this is that If the RBI did nothing on interest rates, then it has tightened the policy indirectly by way of higher for longer rates and its adverse impact on growth, and higher borrowing costs impinging on interest rate sensitive segments of the economy.
Yet, another way to interpret this is that even by ‘doing nothing’ on policy rates, the RBI still has done a lot. What the RBI did today is rational and desirable. A resolute and patient monetary policy is India’s window to macro stability and sustained growth path in a volatile world that remains highly prone to accidents.
The Governor pointed out the ‘congenial conditions’ with respect to data and stars that finally seem to be aligning towards a stance change. But it does justifiably need some more patience and a slightly better handle on some of the looming global event risks before taking the plunge on interest rate cuts.
Importantly, the policy does not sound too dovish by design and even though the RBI changed its stance, it dropped copious hints on risk factors such as Crude and Commodity prices as well as global events. The RBI has been cognizant of easy financial conditions and doesn’t want them to ease further and pose challenges for the conduct of monetary policy. That also explains the moves on financial stability and announcements with respect to NBFCs and some other measures. But importantly, the RBI reiterated its confidence in the India growth story and the cognizance for supporting growth, if needed, with remaining steadfast on its long-term commitment to combat inflation.
For clues on when will the RBI embark on interest rate cut cycle, it will need definitive answers to the following questions:
First, is growth going to soften dramatically? The answer is an unambiguous ‘No’ from the RBI’s own forecasts that remain north of 7 per cent for each of the next four quarters. The RBI remained positive citing its upward momentum in its fundamental drivers ie consumption and investments. Its real growth forecast was maintained at 7.2 per cent - one of the highest in the world. Rural demand is seen trending upwards with good monsoon that bodes well for both Rabi and Kharif crop output. Urban demand is seen staying firm. Investment activity looks buoyant with the government capex rebounding from a contraction observed in Q1FY25.
Second, has the RBI managed to vanquish inflation? Here it gets a lot hazier and puts the RBI in a unique quandary unlike other central banks. Pure monetarist view would look at Core inflation that has averaged 3.5 per cent in 2024 thus far which gives the impression that the RBI has managed to break the back of inflation, However, given that the RBI’s ‘dharma’ under flexible inflation targeting (FIT) framework is to target headline CPI the view changes dramatically. The reason is not difficult to fathom, it is related to food inflation that has averaged ~8 per cent since the middle of 2023 and is beyond the remit of monetary policy influence. While there was a rejig in Q2 forecast, the overall forecast for headline CPI inflation was maintained at 4.5 per cent. However, the Governor emphasized in no uncertain terms that even as there is greater confidence in navigating the last mile of disinflation, significant risks to inflation and that it has to be ‘very careful about opening the gate as the horse may simply bolt again and we must keep the horse under tight leash, so that we do not lose control’.
Third, even if the RBI cuts the repo rate, it is important to ascertain if they will get passed on? The data thus far does not seem very inspiring. As per the RBI, between May 2022 - Feb 2023, RBI raised the repo rate by 250 bps, but the 1-year median MCLR of banks increased by 170 bps during May, 2022-Aug 2024. The WALR on fresh and outstanding rupee loans increased by 189 bps and 119 bps, respectively during May,2022-July, 2024. As for deposits, the weighted average domestic term deposit rates on fresh and outstanding rupee term deposits increased by 245 bps and 189 bps respectively, during the same period. Thus, rate transmission has remained uneven and significantly lagged.
