RBI’s focus has to shift to growth from inflation sooner rather than later, says economist

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The Reserve Bank of India will need to shift its focus back to supporting growth from curbing inflation sooner rather than later, according to an India economist at Societe Generale.

“While a slower growth is a necessity to curb inflationary pressure, RBI would not be in a position to follow the Fed step for step as growth concerns gain currency, what with multiple agencies announcing a major downgrade in their India growth expectation,” Kunal Kumar Kundu said in a note. “And with unemployment rate showing signs of inching up again, after a modicum of moderation, the focus of the central bank has to shift to growth recovery from inflation control sooner rather than later.”

Several economists have raised expectations for the so-called terminal policy rate to 6.5 percent or higher as the RBI has failed to meet its price mandate, with retail inflation staying outside the target band for three consecutive quarters. Retail inflation rose to 7.41 percent in September from 7.00 percent in August, government data earlier this week showed.

Also read: RBI fails to meet price mandate as CPI inflation rises to 7.41% in September

The higher-than-expected latest India inflation print is a vindication of the belief that recent easing of upstream prices will not translate into easing downstream price pressure, Kundu said.

“Companies would prefer to recoup the lost margin when input costs were surging while lack of their pricing power meant a dent in margins,” he added.

For households, the impact of rising food prices is much more severe on their spending power with food accounting for nearly 40 percent of the total consumption basket, the economist said.

For the central bank, the bigger challenge though is the firming up of core inflation, he added.

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The RBI has raised the key policy repo rate sharply since early May, raising it from a record low 4 percent to 5.9 percent now. Banking system liquidity surplus has also narrowed and most pandemic-triggered easing measures unwound.

Meanwhile, multilateral agencies have slashed India’s economic growth forecasts amid a slowing global economy, sharp monetary tightening across major economies and the ensuing financial market volatility.

The Federal Reserve is expected to keep raising interest rates sharply as inflation continues to accelerate in the world’s largest economy, boosting the greenback and hurting emerging market assets.

Societe Generale’s Kundu expects elevated food and crude prices and a weak currency to potentially add to the intensity of inflation tailwind in Indian over the shorter period.

He expects the RBI to effect additional rate hikes of 35 basis points and 25 basis points in the next two meetings taking the terminal policy to 6.5 percent before the central bank calls an end to the current rate hike cycle.