The Reserve Bank of India's (RBI) action in the upcoming policy review remains a close call between a pause and a rise of 25 basis points in the repo rate. We expect it to eventually deliver a final 25-basis point rise next week. The choice for RBI is not easy. Even its own technical advisory committee had recommended a pause in July (RBI has already raised the rate by 75 basis points since then). Industry lobbies are vocal against tightening. Still, recent rhetoric from RBI clearly spells out its discomfort in pausing now.
Indeed, inflation is stubborn, at near double-digits for almost two years, with wide-spread pressures across sectors. The headline print is just 50 basis points lower compared to March 2010, when the tightening cycle began. ‘Core’ inflation remains sticky—7.5 per cent, markedly above historical levels. The increasingly complicated global backdrop and slowing growth have induced several central banks to tone down their hawkishness. RBI, however, has repeatedly reiterated its focus on domestic developments and the explicit policy priority in containing inflation, even at the cost of near-term growth, if required. So far, RBI stood vindicated on its cautious view of commodities—key commodity prices have remained fairly sticky despite renewed global fears of a slowdown. The weakening rupee has actually increased import costs for several commodities. The fiscal dynamics seem to be hurting, rather than helping, on the inflation front, thereby inducing RBI to maintain an extra-vigilant monetary stance.
RBI can enter into a pause mode from the policy review in December, as inflation would likely roll off to an average seven per cent in the next quarter. However, given the recent history of overshooting inflation, it would possibly prefer to maintain a hawkish stance even then, and would not risk prematurely signalling any easing, barring severe systemic growth risks.
Rate rises are neither costless, nor the remedy of all evils. Inflation in India is far more structural than what can be contained with cyclical tools like rate increases alone. However, RBI is currently fire-fighting inflation, without many options to experiment with.
The writer is chief India economist, Barclays Capital