MPC's dilemma: RBI projects 5.1-5.6% CPI inflation in first half of 2018-19

In its last meeting, the monetary policy committee (MPC) chose to maintain the status quo on rates. As seen in Chart 1, the repo rate has remained at 6 per cent since August last year.

Since that meeting in February, the consumer price index (CPI) has fallen to 4.4 per cent in February, down from 5.01 per cent in January, aided by the falling food inflation rate. But as seen in Chart 2, core inflation continues to remain sticky. 

Economists expect the CPI to inch upward as the adverse base effect and seasonally high food prices push up the inflation rate. The Reserve Bank of India (RBI) has estimated the CPI at 5.1-5.6 per cent in the first half of 2018-19, easing to 4.5-4.6 per cent in the second half.

Upside risks to inflation remain. Those emanate from the monsoon, rising commodity prices, especially of oil (Chart 3), fiscal slippage and higher MSPs for kharif crops. Further, as seen in Chart 4, household inflation expectations stay elevated.

On the growth front, there is reason to cheer. The second advance estimates showed that gross value added (GVA) grew by 6.7 per cent in Q3FY18, up from 5.6 per cent in Q1FY18, as the effects of demonetisation and the GST fade away. Gross fixed capital formation also grew by a healthy 12 per cent in Q3FY18 (Chart 5).

The MPC will also be mindful of the direction of the US Fed policy, which raised rates last week (Chart 6). The markets are expecting two more rate hikes by the Fed in 2018.

But even as the MPC has held rates so far, financial market conditions have tightened. As seen in Chart 7, the 10-year G-sec yield has soared. Though yields fell after the government announced its borrowing programme for 2018-19, they remain elevated. Banks are also hiking their term deposit rates, which is now gradually seeping into higher lending rates (Chart 8).
 

StatsGuru is a weekly feature. Every Monday, Business Standard guides you through the numbers you need to know to make sense of the headlines. Compiled by BS Research Bureau