RBI monetary policy preview: Expecting more nimble and prudent guidance

CPI-based inflation is expected to broadly align near the RBI's projection of 4.5% in 2024-25, despite perishable food price shock due to repeated weather aberrations

A complex global backdrop

Global macro and policy backdrop remains complicated, often driven by idiosyncratic factors. For instance, the US Fed lowered the Fed Funds Rate by 50 basis points (bps) in September, the first rate cut in over four years, amid continued softening in inflation, while US growth and labour market display mixed trends. In contrast, China’s recent large monetary stimulus was triggered by a surge in fears of a major economic downturn, even though it is far from clear whether such stimulus will indeed support the real economy or will end up boosting financial markets only.

Geopolitical tension escalated further in recent weeks posing palpable risks to the global economy. On the other hand, US elections next month seem to be a close battle, whose result could lead to very different sets of economic and geopolitical implications for the US and the world at large. 

India: Macro favourable, RBI cautious

Despite complex and uncertain global tides, India continues to enjoy a largely favourable set of economic parameters with decent growth, moderate inflation, modest fiscal and current account deficits, strong FII inflows, and a stable currency. Such a favourable macro backdrop and growth-inflation dynamics in particular, pose no pressure whatsoever on the RBI to tweak monetary policy in either of the directions, and, thereby, offering a wider spectrum of choices and discretion for the MPC. 

CPI inflation is expected to broadly align near the Reserve Bank of India’s (RBI’s) projection of 4.5 per cent in 2024-25, despite perishable food price shock due to repeated weather aberrations along with possible uptick in global commodity and crude oil prices. Thus, the RBI’s recent estimate of neutral rate between 1. 4 per cent and 1.9 per cent suggests that the current policy rate remains largely in line with India’s current output-inflation dynamics. Furthermore, the RBI’s repeated communication regarding commitment to “steadfastly focus on the last mile of disinflation” will likely prompt the newly rejigged monetary policy committee (MPC) to keep the repo rate unchanged in October, potentially with a complete or near consensus voting.

Going ahead, domestic growth momentum will likely play a key role in shaping the bias of monetary policy. Rural activity recorded a gradual improvement during the early summer months. Overall, the monsoon had been decent, though with sub-optimal spatial and temporal distribution. GST collection and PMIs, both manufacturing and services, after a strong trajectory for several months, decelerated of late, while core industrial growth had been markedly slower in 2024-25 so far than in the previous year. Overall, GDP growth, though decent at 6.7 per cent  Y-o-Y in Q1 2024-25, missed the MPC’s projection by about 40 bps; it needs to be seen whether GDP growth meets the MPC’s projection of 7.2 per cent in Q2. Any meaningful softening in growth momentum may trigger policy rate easing, albeit likely a shallow cycle of 50-100 bps only.

Nimble and a marginally dovish policy narrative

In sum, while no rate action is expected immediately, there is merit in changing the monetary policy stance to “neutral”, in my opinion. RBI will also continue to stay nimble and prudent in managing liquidity with no tool being off the table. Growth in reserve money – the measure of primary liquidity infusion by the central bank into the banking system – fell sharply to a compounded annual growth rate (CAGR) of merely around 7 per cent since mid-2022, in sharp contrast to a long-term growth rate of 12-15 per cent. One expects reserve money growth to gradually inch higher in the coming months.

As regards rate action, while the MPC will likely and justifiably wait for critical incoming information related to geo-political developments, critical election results, commodity price trends and domestic growth-inflation dynamics in the coming months, the current meeting can be a good opportunity for reiterating the central bank's nimble and nuanced narrative underscoring cognizance for supporting growth, if needed, without lowering its long-term commitment to combat inflation. 

The writer is Chief Economist & Head of Research in Bandhan Bank. The writer thanks Sudarshan Bhattacharjee and Gaurav Mukherjee for assistance. Views expressed are personal