In its third bi-monthly review of monetary policy
for 2017-18, the Monetary Policy
Committee (MPC) of the Reserve Bank of India (RBI) did precisely what was widely expected and cut the policy rate by 25 basis points. The MPC’s statement, released on Wednesday, said that the decision was in keeping with a neutral monetary policy
stance — a stance which the committee declined to change
. The general impression conveyed by the MPC’s statement was that the committee felt that lower-than-expected prints for inflation and a stuttering economy had essentially forced its hand
. The upside threats to inflation continued to be a concern, thus the cut was clearly reluctantly decided upon.
The rate cut was widely expected after a string of data releases that seemed to clearly suggest a slowing economy. Food inflation
had turned negative in May and that momentum continued into June. Overall consumer price inflation
had hit lows that were a record for the new 2011-12 base year series. Suppressed urban demand means that companies largely do not appear to have great pricing power. Meanwhile, data from the output side of the economy make for disquieting reading. The Index of Industrial Production grew by only 1.7 per cent, year on year, in May, according to data made available in July. The Purchasing Managers’ Index, or PMI, for manufacturing turned contractionary for June, in data released as the MPC
sat down to decide on policy rates. The MPC
statement also noted that new investment announcements had fallen to a 12-year low in the first quarter. The government’s economists had been firm about the conclusions that should be drawn from this data, which they said, indicated a paradigm shift in the inflationary process to low levels of inflation. They also expressed concerns about deflationary trends and added that policymakers should follow real data rather than “error-prone forecasting models
”. The MPC was forced to acknowledge that “some of the upside risks to inflation have either reduced or not materialised”. The pressure on the MPC was clearly too great to resist.
However, it is also understandable why the MPC
chose to be cautious, cutting rates only by 25 basis points and not the 50 basis points or more as many, including this newspaper, have suggested was necessary to move the needle in terms of the cost of capital. While acknowledging the change to upside risks to inflation, the MPC stopped short of agreeing with the notion of a “paradigm shift in the inflationary process”, saying instead that uncertainty about the baseline inflation trajectory continued, and that “a conclusive segregation of transitory and structural factors driving the disinflation is still elusive”. In any case, no one knows for sure how much of the recent decline in inflation is structural and how much a result of demonetisation and the goods and services tax
. It was clear in the statement that the MPC
thinks that, by acknowledging lower inflation
through the rate cut, it has done its part. Now it is up to the governments at the Centre and the states to move forward on de-clogging the investment pipeline through speedier clearance of projects and resolution of the bad loans crisis.
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