Four critical questions before the RBI in its inflation fight

Shaktikanta Das has reiterated his concerns on a persistently high inflation

The Reserve Bank of India (RBI) governor Shaktikanta Das is set to announce the outcome of the monetary policy today. Most economists who participated in a Moneycontrol poll expect the central bank to retain status quo in key rates as the central bank’s inflation target of 4 per cent is not within the reach yet.

What has changed between last policy in April and now? Let’s take a look. One, inflation has been easing but still stays above where the central bank wants it to be. Headline retail inflation stayed largely unchanged at 4.83 percent in April against a 10-month low of 4.85 percent in March.

Time and again, the central bank has made it clear that after bringing down inflation to the target band of 2-6 per cent, the next aim is to align with the 4 per cent target, that too on a sustainable basis. As per the RBI’s own estimate in April, inflation is likely to continue above 4 per cent throughout this fiscal year except a likely blip in second quarter.

The RBI’s projection of 4.5 percent retail inflation in the fiscal year 2025 assumes a normal monsoon. Assuming a normal monsoon, CPI inflation for 2024-25 has been projected at 4.5 percent with the first quarter at 4.9 percent, the second quarter at 3.8 percent, the third quarter at 4.6 percent and the fourth quarter at 4.5 percent.

Now, there are a few critical questions ahead for which the central bank may be seeking answers before lowering its guard on inflation.

One, how will the monsoons behave? The Indian Meteorological Department (IMD) has forecast an above-normal monsoon. But there are two significant fresh upside risks to these assumptions now--a possible surge in global crude prices if the Iran-Israel conflict escalates and a potential food inflation spike from the impact of heatwaves in the next two months, something also predicted by IMD. There is no answer to this at this point.

Two, how will the surprise poll verdict impact the fiscal consolidation roadmap ahead? Till the counting day, most pollsters predicted a clean sweep for the BJP in the elections. The final verdict came as a surprise with Congress-led INDIA bloc managing to get 232 seats. As the BJP is expected to form government with support of two powerful regional allies—TDP and JDU—this is set to be a coalition regime. If the government switches gears to a populist budget yielding to pressure from allies, this could have ripple effects on inflation management. The MPC/RBI may have to then stay on a hold mode longer than expected.

Three, how will the food prices and a lower base effect behave going ahead?  As per rating agency ICRA, the food and beverages inflation will retrace above the 8-percent-mark in May 2024, partly on account of the adverse base as well as the above-normal temperatures and heatwave conditions during the summer season, which would push up the headline CPI inflation to a five-month high of 5.1-5.2 precent in the ongoing month.

Four, how will global factors and geopolitical tensions evolve going ahead?  A surge in the global crude oil prices in the event of an escalation in the Israel-Iran conflict, coupled with the impact of a possible heat wave across India that may trigger a spike in food inflation, could upset the inflation calculation of India’s rate-setting panel.

The bottomline is this: The central bank wouldn’t want to hurry on a rate reversal till it sees clear signs of inflation easing to 4 per cent levels. That may be still some time away.