RBI MPC Announcement: Rolling Sleeves, Pulling Up Socks

Backstory

RBI’s recent off-schedule hike in the key policy rate served a grim reminder about the economy’s
challenged state of affairs. While the central bank tried kicking the rate-hike can as far down the road
as it could in a gambit of growth, the road ended when the challenge agenda shifted to survival and
sustainability. The frayed state of nerves has been well captured by historical spikes witnessed across
maturities of the sovereign bond, in a relatively shorter duration. While the Central Bank has quite a
track in maintaining predictability in its actions, the previous 40-bps rate hike was rather
uncharacteristic of the committee. So far, RBI’s rate decisions have been commendable while it was
only the implementation of the last one that is mildly condemnable. RBI has been putting its best foot
forward to balance growth and fiscal prudence. Calling it a tight-rope walk would probably be an
understatement.

MPC moves the rate

Withdrawal of accommodation continues as the monetary policy committee’s stance. In line, RBI
increased the repo rate by the much-anticipated 50-bps. Alongside, the MSF and Bank Rate have been
revised upwards by 50 bps to 5.15% while the SDF is pegged at 4.65%.
The committee maintained GDP growth forecast for FY23 at 7.2% while the CPI forecast for the period
has been revised to 6.7% from 5.7%.

Fisdom Research’s Take

‘Fight inflation with higher rates’ seemed to be the central theme of today’s monetary policy
announcements. While a strong monetary policy response to harsh inflationary environment is
warranted, the same may not suffice as a counter-measure. In fact, such an approach could prove to
be economically detrimental. Tight taps may be a great way to control raging inflation fuelled by
voracious demand. Lower levels of accessible liquidity are known to alleviate the hunger pangs of a
demanding economy. However, an exercise that directly curbs demand could stunt the growth of an
economy that is anyway witnessing sluggish demand.

The powerful rate hike dosage, while appreciable, must be quickly complemented by strong antacids
that thoughtful fiscal measures are. With policies around commodities and international trade, the
fiscal ball has started rolling but may not be adequate to support an economy that is diverting all its
strength to barely stand.

While metrics on the credit offtake and capex charts looked promising, supply chain distortions and
consequent demand disruptions induced by the geopolitical crisis sure has thrown a spanner in the
works. While the economy continues to make headway into the growth arena, higher rates and broad-based global inflation stand as strong barriers in the path.

Inflation, especially because of the food and fuel baskets, is expected to remain persistent. There are
hopes pinned onto a normal southwest monsoon that will alleviate inflationary pain emanating from
the food component. There is sufficient reason to believe that the talks on OPEC ramping up
production may hold merit and offers reasonable grounds to anticipate the same. These
developments, if they materialise, will help bring domestic inflation significantly closer to the central
bank’s tolerance threshold.

While the forex reserves continue to remain at healthy levels, the pace of decline warrants worry.
Though the central bank has always favoured organic price discovery for the INR as a currency, the
pace and trajectory of decline continues to push RBI towards intervention to arrest the slide. The
global interest rate situation and risk-off environment is not just diverting foreign capital inflows but
is also leading to available foreign investments being taken off the table.

The committee’s silence on the subject of CRR is worth appreciating as the banking industry continues
to pin hopes of meaningful credit offtake, Q2FY23 onwards. Any hike in the CRR would not just push
the systemic liquidity towards the brink of deficit but also cripple the bank’s ability to expand its assets
through loans and advances.

Considering the complex chain of events leading up to the economic mess that the global economy is
in, RBI is faced with a unique challenge by the impossible trinity where it is a herculean task to even
achieve the theoretical two-out-of-three economic agendas.

While we continue to remain hopeful that the variables turn in favour, we also acknowledge that the
wind is against us. We expect the rate hike cycle to continue for much longer with quantum depending
on the pace at which externalities revert to a range that is at least closer to normal.