Policy Pivot Unlikely Until Inflation Is Under Control, Show MPC Minutes

After India's Monetary Policy Committee's decision to keep the benchmark repo rate unchanged earlier this month, the minutes of the meeting show that members are in no rush for a policy pivot, with the last leg of disinflation still pending.

The current setting of monetary policy is moving in the right direction, with growth holding firm and inflation trending down to the target, said Reserve Bank of India Governor Shaktikanta Das.

At this juncture, monetary policy must remain vigilant and not assume that our job on the inflation front is over, he said. "We must remain committed to successfully navigating the ‘last mile’ of disinflation, which can be sticky."

As markets are front-running central banks in anticipation of policy pivots, any premature move may undermine the success achieved so far, said Das. "Policy imperative at the current juncture is to remain focused on achieving the 4% inflation target on a durable basis, keeping in mind the objective of growth."

The optimism generated by evolving macroeconomic conditions and the recent improvement in financial conditions, in response to prudent and growth-stimulating budgetary announcements, would come full circle if inflation eases and aligns with the target, said Deputy Governor Michael Patra. The outlook for the Indian economy remains highly sensitive to inflation risks, he said.

High inflation erodes purchasing power, especially for those least protected against the higher costs of essentials like food, he explained, adding that restoring price stability is beneficial for all. Accordingly, monetary policy must remain restrictive and maintain downward pressure on inflation while minimising the output costs of disinflation.

"It is only when inflation subsides and stays close to the target lastingly that policy restraint can be eased."

"We're in a period of transition, which is a little delicate where neither forward guidance works nor pre-emptive policy actions," said Executive Director Rajiv Ranjan. "Very recently, we saw that expectations of rate cuts by major advanced economies have made global markets very exuberant," he said.

This makes the job of central banks even more difficult, especially since the last leg of disinflation is still pending, he said. Staying on course with determination without getting carried away is the best bet to address these transition challenges, said Ranjan.

External member Jayanth R. Varma, who voted for a rate cut and a change in stance, said the current policy rate of 6.5% translates into a real rate of 2%. "I do not believe that such a high real rate is required at this stage to drive inflation down to the target of 4%," he said. It is true that economic growth is holding up well, but there is no evidence at all that the economy is overheating, he explained.

"During the last few years, we have seen several policy measures, including digitalisation, tax reforms, and a step up in infrastructure investment that should boost the potential growth rate of the economy," he said. If the potential growth rate of the economy is close to 8%, then the economy is not at risk of overheating in FY25, he said.

As such, a real interest rate of 1–1.5% would then be sufficient to glide inflation to the target of 4%. A real interest rate of 2% creates the very real risk of turning growth pessimism into a self-fulfilling prophecy, he added. Fiscal consolidation, too, opens up space for monetary easing without risking an inflationary spiral, he said.

"In my view, the time has come for the MPC to send a clear signal that it takes its dual mandate of inflation and growth seriously and that it would not maintain a real interest rate that is significantly more than what is needed to achieve its target."