In December, the Reserve Bank of India did not raise the interest rate but engaged in tough talk. I had expected them to raise rates. RBI did not and I had written then that the RBI press statement after the meeting almost sounded like an apology for not raising rates. Data released in December showed that both wholesale and consumer price inflation rates were sharply higher in November. Hence, there was enough of a smoking gun then for RBI to move decisively – raising the policy rate by as much as 50 basis points. It chose not to do so. In December, it was a combination of no action and tough talk.
In January, the headline inflation rate slowed sharply because of the reduction in vegetable prices. Core inflation rates remained broadly unchanged. Yet, RBI chose to hike policy rates in its monetary policy meeting held on 28 January. The repo rate was hiked to 8.0% from 7.75% and accordingly, the reverse repo rate to 7.0% and the rate on the Marginal Standing Facility (MSF) were hiked to 9.0%. This was a surprise move. Consensus anticipated no rate action and I was broadly in agreement with the consensus view.
RBI hiked the rate and combined it with a reassuring talk on future rate hikes. It appeared to signal that the rate hike was ending. I am not sure I agree with that. The downward path of Indian retail prices is likely to be one with the strong resistance. The central bank might have to raise rates by 25 to 50 basis points more before the tightening cycle ends.
So, it is a rate hike + easy talk OR no hike + hawkish talk.
Perhaps, the central bank had to take note of the turmoil in emerging currencies in the last week or more, especially in the light of the upcoming Federal Reserve Open Market Committee Meeting on 29 January. In case the Federal Reserve surprised markets by increasing the amount of tapering to USD20.0bn from USD10.0bn, emerging currencies could come under pressure further. That is the only plausible explanation we could come up with for their rate hike action on 28 January. [The Governor has denied this logic, however]
It was also unclear whether RBI had accepted the recommendations of the Committee the Governor had appointed to come up with a new monetary policy framework. On the one hand, the Governor said that the report was being studied and, yet, on the other hand, he cited the report’s recommended inflation target (8% CPI inflation rate by 1Q2015) as a justification for hiking the policy rate.
Anyway, the final message is that India’s interest rate and monetary conditions are tightening through a combination of words and deeds, even if in an awkward manner and it is not over yet. That can only be a good thing for the Indian restructuring story.
In that regard, this blogger disagrees with the sharp criticism that the rate hike has drawn from Professor Charan Singh at IIM, Bangalore.
In his article in ‘Business Line’, he says that rate hikes did not hurt inflation but India’s manufacturing and growth. Real rates are negative. Credit is available still. Non-food credit growth is in double digits. RBI had, in any case, neutralised its rate hikes with its OMOs. Otherwise, benchmark government borrowing rates could be much higher.
India’s manufacturing and growth have been hit by capricious policies. Look at how Air Asia’s application for flying a low-cost carrier service in India is being subject to a public referendum based on a 1937 law! Were other private carriers subject to a similar process? Road building had slowed to a crawl. Telecom licenses have been cancelled and spectrum is in short supply. Quality of telecommunication has dropped. Agriculture remains chained, despite decent monsoons boosting production. Income Tax collection and policies have become regressive and arbitrary.
He is right that monetary policymakers played an important role in the onset/breakout of the global crisis of 2007-08. But, that was not because they tightened too much but by too little. Whether or not, monetary policy and central bank independence is good in the developed world may evoke a different answer than it does in India. The answer, in the case of India, is an unambiguous YES.
The Finance Ministry and its friends in the so-called policy research circles are keen to ape the West and introduce harmful financialisation into India with undue haste and eagerness.
In my recent MINT article, I had praised the Committee on the Framework for Monetary Policy for its hardcore stance on the formation of the monetary policy committee with only five members with no space for government nominees and for it choosing both the inflation metric and the numerical target.
In fact, I feel that politicians should do whatever they can, to support the RBI goal of bringing down the inflation rate. It is not only a tax on the poor but also a source of temptation for corruption as inflation renders many an income inadequate to meet even legitimate aspirations.
Therefore, to criticise the RBI and to want a bigger role for the government is to ignore India’s copious history with government influence, interference and incompetence.