The Indian economy is not out of the woods and growth continues to be a concern despite the blowout GDP data for January-March, Jayanth Varma, one of the three external members on the rate-setting panel, has said. "If you get one quarter of low inflation, you can't think the battle is over. The same way, I think one quarter of good GDP growth does not mean that the growth struggle is over," Varma told Moneycontrol in an interview following the release of the minutes of the June 6-8 Monetary Policy Committee (MPC) meeting on June 22.
India's GDP grew by a far quicker than expected 6.1 percent in the last quarter of 2022-23, taking the full-year growth estimate to 7.2 percent. This led to an upgrade in the growth forecast for 2023-24 by some economists, while the government has become more bullish about its growth prediction of 6.5 percent.
However, Varma sees a hostile external environment and significant fiscal tightening, among other factors, posing plenty of challenges.
"The government's fiscal deficit is shrinking, the external sector is not at all looking good, and the pent-up demand will dissipate. And then there is the monsoon, which we in the MPC focus on more as a threat to inflation. But the monsoon can also be a threat to rural demand. A sub-par monsoon will destroy rural demand. So there are a lot of pain-points for economic growth. We are not out of the woods," Varma said.
This is not to say Varma does not recognise India's growth outperformance. It is just that the bar, according to him, should be higher.
"Any other country in the world would like to have our problems. China and the US would love to have India's growth numbers. I am not trying to pour cold water on the growth performance. But I am benchmarking it against our aspirations. And I think our aspiration for growth is 7-8 percent," he said.
Early inflation celebrations
Like growth, Varma is not putting too much stock in the recent inflation prints.
The Consumer Price Index (CPI) inflation declined to an 18-month low of 4.7 percent in April, with data released after the MPC's June 8 decision to pause showing it fell further in May to a 25-month low of 4.25 percent.
In the minutes, the Professor of Finance at Indian Institute of Management, Ahmedabad, said the process of bringing inflation under control was still work-in-progress, and that it would be premature to declare victory. He also expressed his discomfort with the committee's "self-congratulatory tone" in its statement regarding the decline in CPI inflation in March and April. According to Varma, it has to be seen if inflation falls on a sustained basis, with the RBI's forecasts indicating it will now rise in the coming months to end 2023-24 at around 5.2 percent.
For Varma, there are many variables to watch for in addition to a sustained decline in headline retail inflation, such as core inflation and fuel prices. The latter is especially worth keeping an eye on as global crude oil prices have eased below $80 per barrel, but the decline has not yet been passed on to the consumer.
If Varma felt it necessary to flag his unease with the MPC's language on inflation in the latest statement, his displeasure with the stance seemingly hit a new high.
In the minutes, Varma said the MPC's stance of 'withdrawal of accommodation' is becoming "more and more disconnected from reality" and appeared to be "more vestigial than a serious statement of intent". Asked to elaborate, Varma said it was almost as if the language was being 'cut and pasted' from the previous statement.
"Perhaps there is a concern that if we change the stance, it would be interpreted in unintended ways. Keeping the stance unchanged is maintaining the status quo; and the status quo has its attractions. But if you retain the language even though the world has changed, then…"
Cutting rates
The MPC's decision to hold on to the policy repo rate in April and June — after hiking it by 250 basis points in 2022-23 — in conjunction with a sharp fall in inflation has sparked hopes of the rate-setting panel starting to cut interest rates in the second half of the current financial year. This is despite the committee reiterating that the rate hike cycle is not necessarily over and that it stood ready to take "further monetary actions promptly and appropriately" as needed to keep inflation expectations firmly anchored and to bring down inflation to the 4 percent target.
One basis point is one-hundredth of a percentage point. The repo rate is currently at 6.5 percent.
However, according to Varma, a reduction in the nominal policy rate may not lead to easier financial conditions if the real rate remains high.
As per the RBI, a repo rate of 6.5 percent and a one-year-ahead inflation forecast of 5.2 percent results in a real policy rate of 1.3 percent. If inflation keeps falling as projected — the RBI's forecast sees it at 4.5 percent in 2024-25 — then the real rate could hit dangerous levels.
"Like I have said in my statement, the real rate going above 1.5 percent is the danger zone and one must be very wary of that."
At the same time, the need to bring inflation down to the target means real rates will have to remain elevated until inflation is in the vicinity of 4 percent, Varma added.
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