ExplainSpeaking: Takeaways from the RBI’s latest Monetary Policy Report

 The Indian Express

October 13, 2020

The biggest news of the past week was the monetary policy review. The October review was delayed because the Central government had not been able to nominate its quota of three members to the Monetary Policy Committee of the Reserve Bank of India.

Given that retail inflation — the variable RBI’s MPC is mandated to target by law — has stayed above the comfort zone for the most part since December last year, it was expected that the MPC will decide to wait before cutting repo rate (the rate at which India’s central bank lends money to the banking system) further.

Going into the meeting, however, the two more substantive issues were RBI’s assessment of how bad will the hit be to the GDP growth rate this financial year, as well as what is the outlook on inflation.

On inflation, the RBI expects a steady decline.

“CPI inflation is projected at 6.8 per cent for Q2:2020-21, at 5.4-4.5 per cent for H2:2020-21 and 4.3 per cent for Q1:2021-22,” stated the policy statement.

In other words, with inflation expected to fall within RBI’s comfort band — that is, 4%, +/- 2 percentage points — in the second half of the year, there could be a repo rate cut in the coming months.

On GDP growth, the RBI laid down the marker and stated that it expected the economy to contract by 9.5% in the current financial year.

“The MPC is of the view that revival of the economy from an unprecedented COVID-19 pandemic assumes the highest priority in the conduct of monetary policy. While inflation has been above the tolerance band for several months, the MPC judges that the underlying factors are essentially supply shocks which should dissipate over the ensuing months as the economy unlocks, supply chains are restored, and activity normalises.

Accordingly, they can be looked through at this juncture while setting the stance of monetary policy. Taking into account all these factors, the MPC decides to maintain status quo on the policy rate in this meeting and await the easing of inflationary pressures to use the space available for supporting growth further,” according to the policy statement.

The RBI did try to compensate for the pause on rate cuts by further making it cheaper for new loans to be provided. It did this by tweaking the risk weights and bringing down the cost of creating credit for banks. It also provided more liquidity to aid credit creation.

In a nutshell, while there are encouraging signs of recovery, it is not entirely clear how things will pan out and that is why RBI continues to be in a wait-and-watch mode. Ideally, as the economy recovers and supply lines are restored, retail inflation should ease, but everything depends on the rate of Covid-19 infections coming down. If that goes up again, for any reason, then all bets are off.

Apart from the monetary policy review, the RBI also released its second Monetary Policy Report of 2020. The MPRs are released twice each year — once in April and again in October — and provide a comprehensive round-up of the state of the economy.

In the coming week, the discussion could be dominated by the choice of the latest Nobel prize winner in economics. The decision is likely to be made public on Monday. Two of last year’s winners — Abhijit Banerjee and Esther Duflo — had a huge India connection.

In a year when economies around the world have been facing one of their toughest challenges and decision-makers have continually struggled to find the right policy tools to address the demand as well as the supply shocks, it would be interesting to see who is chosen for the top honour.

Reference: https://indianexpress.com/article/explained/explainspeaking-takeaways-from-the-rbis-latest-monetary-policy-report-6721167/


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