RBI policy tomorrow. Will the MPC shift gears?

High inflation and sluggish economic growth pose a difficult question to the Reserve Bank of India’s monetary policy committee (MPC) that began its bi-monthly review on April 6, with the outcome to be shared on April 8.

The MPC’s actions have been predictable for a while. It has focused on a growth-supportive monetary policy stance and is unlikely to offer surprises this time as well.

Yet, its decision may be influenced by the continuing uncertainty around growth and inflation front as fresh economic factors have played out both domestically and globally since its previous meeting in February.

Soaring inflation

A recent BofA securities report said, since the February meeting, the benchmark Brent crude is up 21 percent, domestic petrol, and diesel pump prices are up 6.5 percent, domestic LPG cylinder is up 6 percent, commercial LPG price 12.5 percent and retail edible oils prices are up around 12 percent.

There is no good news on the inflation front.

The consumer price index (CPI) inflation rose to 6.07 percent from 6.01 percent in the previous month, data released on March 14 showed. Inflation based on CPI was 5.03 percent in February. The MPC has the mandate to keep inflation within the 2-6 percent range.

Economists expect the MPC to revise the inflation target upwards.

“In this backdrop, we expect the RBI MPC to revise up their FY23 average CPI inflation forecast from 4.5 percent year-on-year (YoY) and sight downside risks to their real GDP growth forecast of 7.8 percent YoY. We ourselves see FY23 average CPI inflation at 5.5 percent YoY (with a 30bp upside risk) and real GDP growth at 7.9 percent YoY (with risk to the downside),” the report said.

The question then is how long can the MPC ignore high inflation?

The CPI inflation print for February is above the consensus estimate. As per a Reuters poll, economists expected retail inflation to slip to 5.93 percent. The RBI said in February that CPI inflation would average 5.7 percent in the first quarter of 2022.

What about growth? The GDP growth is expected to improve but the MPC may sight downside risks to the growth projection in the aftermath of geopolitical risks and uncertainty surrounding domestic recovery.

A change in stance?

Economists like DK Joshi of Crisil think the stance will change from “accommodative” to “neutral” in this round. If that happens, it will mark the beginning of a rethink in MPC’s rate approach.

In February RBI policy, Jayanth Varma, one of the MPC members, pitched against the continuation of the so-called accommodative stance, saying the rate-setting panel's continued focus on the pandemic fight had become counterproductive.

The MPC, however, left the rates unchanged and continued with the accommodative stance.

But a lot has changed since then. Russia’s invasion of Ukraine later that month and the barrage of sanctions unleashed by the US and its allies against Moscow for the attack changed the global economic situation.

Global events at play

Global factors will dominate MPC decisions. As UBS securities notes, the Russia-Ukraine war has caused a sharp increase in global energy and commodity prices. China's tightening of COVID-19 restrictions is a potential source of supply chain disruption, even though aggregate tightening is mild so far, the brokerage said.

UBS's US economics team expects the Federal Reserve to cumulatively increase rates by 200 basis points, front-loading the hikes in May and June before pausing later in the year.

The MPC will certainly have to start hiking the rates sooner than later. RBI Governor Shaktikanta Das and his MPC colleagues will have to change the tune on inflation. A change in policy stance will be the first indication of a rate cycle reversal.