 "50 bps rate cut possible if monsoon is good, inflation falls further: Ashima Goyal")
Ashima Goyal, one of the external members of the Technical Advisory Committee (TAC) of Reserve Bank of India (RBI) and professor of economics at the Indira Gandhi Institute for Development Research says: if RBI expects growth to be low, that will lead easing of policy rates. In an interview to Neelasri Barman, she said that the monetary policy guidance of the central bank should be interpreted as being towards easing and not towards hawkish stance for monetary policy. Edited Excerpts:
While headline inflation has come down, but RBI says, it may inch up by year end. At the same time, the central bank projects 5% inflation for March end. Where do you see inflation heading?
The softening in oil and gold prices will impact Wholesale Price Index (WPI) favourably as these prices have larger weightage. This fall in prices will be sustained as prices in the international market were artificially high. Historically too we have seen commodity prices go up for 10 years and then fall. A fall in price is positive for India as we are dependent on imports. WPI going to 5% is quite feasible. In inflation expectations also, we are seeing a reversal.
That has to do with the base effect. Besides that, some administered prices may be raised. This is the suppressed inflation in the system.
Can we also see upward revisions in the Wholesale Price Index (WPI) inflation like we saw in the recent past?
The problem is WPI is based on inputs from industry where you do not get complete response and then there are changes later on. So revisions are inevitable, but they need not necessarily be upward, if inflation starts coming down.
On one hand WPI is falling, but Consumer Price Index (CPI) inflation is still in double digit. Where is CPI headed?
The CPI gives 50% of weight to agriculture and raw materials. Services also have a large share in the new index. There are problems in agricultural marketing. In India food is a large part of the consumption based due to which wages becomes linked to food price inflation. Nominal wages over-reacted to the earlier sharp rise in food inflation leading to sharp rise in real wages. Currently this real wage inflation has shrunk, and food price inflation has also reduced. So this time we might not have another wage- price cycle start. Moreover, the monsoon is expected to be normal and that will help in cooling off food prices. Besides that some efforts have been taken to improve the supply response. These factors will help the CPI to ease further.
Considering we are expecting WPI as well as CPI to ease, what is the scope for further rate cuts in this fiscal?
The RBI has to go carefully because inflation has been sticky for so long. It is necessary to anchor inflation expectations. It is not so much about creating an output gap which is already so large. In terms of declining WPI and core inflation, RBI has room for rate cuts. There is no excess demand but because of CPI and inflationary expectations the RBI has to be cautious.
So can we expect a further 25 basis points cut in the repo rate this fiscal?
It could also be a 50 basis points cut in key policy rates if the monsoon is good and we see inflation come down further.
Why are government bonds rallying despite the hawkish tone of RBI’s monetary policy annual statement?
If RBI expects growth to be low, that means they will ease policy rates. The guidance should be interpreted as being towards easing and not towards hawkish stance for monetary policy. If the RBI underlines the services sector which is such a large part of the economy is also growing slowly, pulling down growth rates, then how can we interpret the guidance as hawkish? The guidance for “limited scope” is conditional and RBI gives the plus as well as minus points—the considerations that create room for further cuts. We read the data and even RBI reads it. If conditions improves, room develops for rate cuts.
The rate cuts have not encouraged banks to cut lending rate. So, do you think the objective of rate cut -- to spur growth by lowering interest rate -- is not achieved?
The transmission is faster when you are tightening and slower in loosening cycles. Since credit has risen more than the deposit growth, and high government cash balances tighten liquidity, banks are not able to cut deposit rates much.
The Cash Reserve Ratio (CRR) is at historic low, do you think there is scope for more cuts or RBI will now use it cautiously?
If there are structural shortages in liquidity, RBI will be open to use CRR. If it is a seasonal deficit due to increase in government's cash balances, they will use Open Market Operations (OMOs). In many countries the CRR is zero, so even RBI may use it if they feel the need to do so.
The government had been successful in keep the fiscal deficit lower last fiscal. But considering we are just ahead of the election year, do you think the target of 4.8% can be achieved?
The government will keep it to that level because we cannot afford a further cut in India’s credit rating. It will raise cost of borrowings for lot of firms and also reduce FPI inflows. One of the parameters foreign investors closely watch is the government's fiscal deficit. The government will go for food security but is committed to reduce subsidies on petrol, including raising diesel prices. That will save a lot of expenditure, allowing deficit targets to be reached despite election year compulsions.
Recently we saw gold prices falling, but with that we also witnessed demand for the yellow metal. Do you expect this demand to continue?
There is consumer demand for gold, but besides that speculative demand from those who buy gold from the investment point of view has sharply increased. So with fall in gold prices this investment demand will drop. As a result gold imports will tend to reduce as prices fall.
The International Monetary Fund (IMF) has cut the Gross Domestic Product (GDP) growth outlook of India recently. Where is growth headed?
We are not seeing revival in industry. Besides that services sector has slowed down. High nominal loan rates are a problem but so are slow project clearances etc. These problems become cumulative because if one industry slows, it reduces demand for other industries also. We need good macro-economic stabilization policies, which unfortunately we have not been able to deliver. Unless the government is able make better and faster decisions, it is difficult for growth to bounce back. We will be lucky if we reach 6% growth for the current fiscal.
While headline inflation has come down, but RBI says, it may inch up by year end. At the same time, the central bank projects 5% inflation for March end. Where do you see inflation heading?
The softening in oil and gold prices will impact Wholesale Price Index (WPI) favourably as these prices have larger weightage. This fall in prices will be sustained as prices in the international market were artificially high. Historically too we have seen commodity prices go up for 10 years and then fall. A fall in price is positive for India as we are dependent on imports. WPI going to 5% is quite feasible. In inflation expectations also, we are seeing a reversal.
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But RBI also expect, inflation may go up by fiscal year end. Why will that happen?
That has to do with the base effect. Besides that, some administered prices may be raised. This is the suppressed inflation in the system.
Can we also see upward revisions in the Wholesale Price Index (WPI) inflation like we saw in the recent past?
The problem is WPI is based on inputs from industry where you do not get complete response and then there are changes later on. So revisions are inevitable, but they need not necessarily be upward, if inflation starts coming down.
On one hand WPI is falling, but Consumer Price Index (CPI) inflation is still in double digit. Where is CPI headed?
The CPI gives 50% of weight to agriculture and raw materials. Services also have a large share in the new index. There are problems in agricultural marketing. In India food is a large part of the consumption based due to which wages becomes linked to food price inflation. Nominal wages over-reacted to the earlier sharp rise in food inflation leading to sharp rise in real wages. Currently this real wage inflation has shrunk, and food price inflation has also reduced. So this time we might not have another wage- price cycle start. Moreover, the monsoon is expected to be normal and that will help in cooling off food prices. Besides that some efforts have been taken to improve the supply response. These factors will help the CPI to ease further.
Considering we are expecting WPI as well as CPI to ease, what is the scope for further rate cuts in this fiscal?
The RBI has to go carefully because inflation has been sticky for so long. It is necessary to anchor inflation expectations. It is not so much about creating an output gap which is already so large. In terms of declining WPI and core inflation, RBI has room for rate cuts. There is no excess demand but because of CPI and inflationary expectations the RBI has to be cautious.
So can we expect a further 25 basis points cut in the repo rate this fiscal?
It could also be a 50 basis points cut in key policy rates if the monsoon is good and we see inflation come down further.
Why are government bonds rallying despite the hawkish tone of RBI’s monetary policy annual statement?
If RBI expects growth to be low, that means they will ease policy rates. The guidance should be interpreted as being towards easing and not towards hawkish stance for monetary policy. If the RBI underlines the services sector which is such a large part of the economy is also growing slowly, pulling down growth rates, then how can we interpret the guidance as hawkish? The guidance for “limited scope” is conditional and RBI gives the plus as well as minus points—the considerations that create room for further cuts. We read the data and even RBI reads it. If conditions improves, room develops for rate cuts.
The rate cuts have not encouraged banks to cut lending rate. So, do you think the objective of rate cut -- to spur growth by lowering interest rate -- is not achieved?
The transmission is faster when you are tightening and slower in loosening cycles. Since credit has risen more than the deposit growth, and high government cash balances tighten liquidity, banks are not able to cut deposit rates much.
The Cash Reserve Ratio (CRR) is at historic low, do you think there is scope for more cuts or RBI will now use it cautiously?
If there are structural shortages in liquidity, RBI will be open to use CRR. If it is a seasonal deficit due to increase in government's cash balances, they will use Open Market Operations (OMOs). In many countries the CRR is zero, so even RBI may use it if they feel the need to do so.
The government had been successful in keep the fiscal deficit lower last fiscal. But considering we are just ahead of the election year, do you think the target of 4.8% can be achieved?
The government will keep it to that level because we cannot afford a further cut in India’s credit rating. It will raise cost of borrowings for lot of firms and also reduce FPI inflows. One of the parameters foreign investors closely watch is the government's fiscal deficit. The government will go for food security but is committed to reduce subsidies on petrol, including raising diesel prices. That will save a lot of expenditure, allowing deficit targets to be reached despite election year compulsions.
Recently we saw gold prices falling, but with that we also witnessed demand for the yellow metal. Do you expect this demand to continue?
There is consumer demand for gold, but besides that speculative demand from those who buy gold from the investment point of view has sharply increased. So with fall in gold prices this investment demand will drop. As a result gold imports will tend to reduce as prices fall.
The International Monetary Fund (IMF) has cut the Gross Domestic Product (GDP) growth outlook of India recently. Where is growth headed?
We are not seeing revival in industry. Besides that services sector has slowed down. High nominal loan rates are a problem but so are slow project clearances etc. These problems become cumulative because if one industry slows, it reduces demand for other industries also. We need good macro-economic stabilization policies, which unfortunately we have not been able to deliver. Unless the government is able make better and faster decisions, it is difficult for growth to bounce back. We will be lucky if we reach 6% growth for the current fiscal.