We expect the Reserve Bank of India’s monetary policy committee (MPC) to firmly reiterate its extant accommodative stance in the June policy. Primary concerns remain centered around challenges to growth, even as inflationary pressures loom. The monetary policy, however, will only be a palliative remedy, with lives, livelihoods, and income being the main concern rather than the cost of funding or sources of funding.
To ensure that markets are not spooked by any fiscal measures, MPC needs to reassure that a loose monetary policy stance will continue. We do not see a need to change policy rates.
The April policy was on the back of an incipient second wave, however, the June one will be in the backdrop of the wave beginning to recede. Even as the number of new Covid cases drops, the scars of the second wave—lost lives and livelihoods, substantial higher medical expenditure and businesses taking a second hit—will underline the domestic demand situation.
With a markedly higher impact than the first wave on the rural economy, resilience in rural demand can no longer be taken for granted. Pent-up demand, unlike the first wave, won’t be as large, given the impact of higher healthcare spending even in urban areas. Following staggered state-based lockdowns and subsequent reopening, there will a more prolonged and asynchronous recovery.
Contact-based services have taken yet another hit and possibly will remain under pressure in the near term. The pace of vaccination does not give the confidence of a jump start to the sector any time soon. And this doesn’t even factor in any further waves.
In this scenario, the MPC has to remain supportive of growth for the next few policies while keeping a watch on inflation. The RBI could lower its FY2022 real GDP growth estimate (currently 10.5 percent) to accompany a dovish June policy. We believe that real GDP growth will be around 8.5 percent.
The MPC will remain wary of inflation. Global commodity prices will possibly be the primary worry along with any lockdown led-supply disruptions.
We believe that given the construction of the CPI basket and India’s trade structure, pass-through of global commodity prices to CPI inflation will be low. Till now, agriculture markets have not seen supply disruptions of the same degree as last year, which should help keep food inflation under check. Food items such as cooking oils will remain under pressure.
Petrol and diesel prices will give an upward push following the hikes in May. While inflationary concerns will remain in FY2022, retail inflation will stay within the 2-6 percent corridor (and average around 5 percent) to provide strength to the RBI’s policy of supporting growth.
The RBI (beyond the MPC) has been proactive in ensuring availability of liquidity in the system along with keeping a check on interest rates. In the June policy, the central bank is expected to remain accommodative on the liquidity front.
The MPC will likely keep an eye out for the fiscal response to the second wave. While supply-side measures such as ECLGS scheme, infrastructure spending allocations, distribution of food grains, etc have been dominant, clamour is growing for a more direct intervention on the lines of MNREGA and bank account transfers.
The subsequent impact on fiscal deficit and further requirement for an additional fiscal-monetary policy tango will become important going forward.
For now, the monetary policy can ensure that along with the existing measures, all possible monetary resources are accessible to economic agents within the macro-prudential norms of the economy.
(The author is Senior Economist with Kotak Institutional Equities.)
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