June 2024 RBI MPC minutes say “Blame it on Food Inflation”

23 Jun 2024 , 06:51 PM

WHAT THE JUNE RBI POLICY STATEMENT FOCUSED ON

On June 26, 2024, the RBI published the Monetary Policy Committee (MPC) minutes. In India, the norm is to publish the minutes exactly 2 weeks after the policy announcement (the US does it after 3 weeks). The minutes published by the RBI on June 21, 2024 underscored the intent of the RBI to be cautious about inflation; especially food inflation. Here is a quick preview of some of the key points made in the RBI policy statement on June 07, 2024; as the backdrop to the MPC minutes. The first big statement that came from the policy statement in June 2024 was that it may be premature to cut rates considering the high levels of inflation and the sticky food inflation. Secondly, when the policy statement was announced on June 07, 2024, the Indian polity was still in a state of flux. The coalition government had just been voted to power and the team of Modi 3.0 was yet to take oath of office. Even the ministerial portfolios were unclear in the midst of coalition pressures.

However, the one redeeming feature was that the GDP growth had continued to remain robust. For the fourth quarter of FY24, the GDP growth had come in at 7.8% while the full year GDP growth for FY24 had come in at 8.2%. That was better than even the most optimistic estimates of growth. As a result, the RBI also upped its GDP forecast by 20 basis points. The street was expecting a 50 bps hike in growth estimates, but the RBI obviously opted to err on the side of caution. However, what was different about the June policy was the two voices of dissent. Normally, Jayanth Varma has been the sole voice of dissent in the MPC. This time around; Jayanth Varma and Ashima Goel expressed reservations about the rate decision and the monetary stance. Varma and Goel wanted the policy rates to be cut by 25 basis points to spur growth and also to change the stance of monetary policy from “Gradual Withdrawal of Accommodation” to a “Neutral” stance. However, the vote still went through by a majority of 4:2. Let us now focus on what changed in the last 15 days.

WHAT CHANGED BETWEEN JUNE 2024 POLICY AND THE MINUTES

It is said that 15 days is a long time in national politics and actually there have been a number of very interesting data points that have come out in the intervening period. Here are 4 key events since the policy statement, which could have ramifications for the RBI monetary policy approach.

• The situation in the Middle East and West Asia continues to fester. After launching an all-out war on the Hamas, Israel is now targeting the Hezbollah, another of those hard line outfits funded by Iran with a clear anti-Israel mandate. Even the demands of the US and Europe for Israel to exercise restraint appears to have fallen on deaf ears. The net outcome is a sharp surge in oil prices after the recent fall.
• In the last fortnight the rupee has touched an all-time low of 83.62/$. This fall in the rupee was triggered by a surge in the dollar index (DXY) on the back of the recent weakening of the Euro. After the political crisis in France, the Euro went into a free fall, leading to sudden strength in the dollar index and putting pressure on the Indian rupee.
• India consumer inflation came in lower at 4.75%, but the concern was that food inflation continued to remain elevated at 8.69%. Pulses and vegetables appear to be exerting most of the pressure on the food basket. Even the wholesale inflation in India came in at 2.61%, the highest level in the last one year. Food is exerting pressure at multiple levels.
• During the week, the merchandise trade deficit in India for May 2024 came in at the highest level in last 7 months at $23.78 billion. As a result, the overall deficit for the month crossed $10 billion, with implications for the current account deficit (CAD). However, the CAD for FY24, which will be announced in the end of June, is expected to come at under 1%.

It is in this background that the RBI published the minutes of the RBI June 2024 meeting. Here is what the six members of the RBI MPC debated on with the summary of their observations and inferences from the macroeconomic data flows.

• SHASHANK BHIDE SAYS, INFLATION FAR FROM OVER

“There are risks to anticipated decline in CPI inflation rate given the uncertainties of distribution of rainfall and the spillover effects of international geopolitical conflicts. Global commodity price trends present a mixed pattern. Wheat prices have advanced, rice prices have remained firm and sugar and palm oil prices have fallen. Among other commodities, energy prices have been volatile and metals have gone up.” 

According to Shashank Bhide, before congratulating ourselves on the fall in inflation, one must be wary of the risks on the upside. At this juncture, cutting rates may be risks as the sum total of the risks indicate that the last mile inflation may fall slower than expected. The focus must be on moving inflation towards the 4% mark on a durable basis. Shashank Bhide voted for status quo on rates and keeping stance as “Gradual withdrawal of Accommodation.”

• ASHIMA GOYAL SAYS, TIME TO TAKE GROWTH SERIOUSLY

“Headline inflation has been around 5% since January 2024 and core inflation has been sub-4% since December 2023. Market risks have not changed the direction of inflation. The inflation projection of 4.5% for FY25 gives average real repo rate of 2%. Falling inflation means that real rates of return have been above meaningfully above “1” for too long.”

Goyal has focused on two important aspects of the monetary policy; growth and real interest rates. This has been a concern for some time since high real rates of interest would be making cost of funds artificially high for Indian corporates. That impact is already visible in the Q4FY24 results and the RBI and the government should heed this warning signal. It is not only that core inflation has fallen due to supply chains moderating, but also there is a sustainable move towards lower inflation.

After a long gap, Ashima Goyal also put forth a dissent note on the policy statement. Goyal feels that the robust growth and the high real rates of interest offer the perfect setting for the RBI to shift the stance of the monetary policy to neutral from “gradual withdrawal of accommodation” and also to cut rates by 25 bps in the current policy. After all, the current repo rates are still 135 bps above the pre-COVID rates, although output has surpassed the pre-COVID levels long time back.

• JAYANT VARMA STILL WORRIES ABOUT GROWTH SACRIFICE

“In April MPC meeting, my concern was about the growth sacrifice in FY25; and that is still valid. This growth sacrifice is likely to be induced by maintaining restrictive monetary policy for unwarrantedly long. Already, professional forecasters surveyed by the RBI are projecting growth in FY25 and FY26 to be meaningfully lower than FY24 by at least 75 bps.”

Jayanth Varma has often played the devil’s advocate for putting growth above inflation control in the last few MPC meetings. However, this time around, that voice has also been echoed by another member, Ashima Goyal. After all, the US look set to take up its first rate cut only in September, but the RBI is still unsure. While the RBI continues to worry about food inflation and global risks, Varma feels the real challenge is elsewhere.

With real rates at close to 2% and repo rates a good 135 bps above the pre-COVID rates, Varma is of the view that persistent tightness may be out of sync with the economic realities in the current context. Jayanth Varma also gave a dissent note and proposed cutting the repo rates by 25 basis points and also to shift the stance of the monetary policy from “gradual withdrawal of accommodation” to a neutral stance.

• RAJIV RANJAN PUTS THE 3 CS ABOVE ALL ELSE

“Headline and core inflation have moderated on anticipated lines. However, there is little comfort in the near-term with inflation projected to remain sticky at 4.9% in Q1FY25 due to unprecedented heat wave conditions on vegetables and fruits; lower agricultural production estimates; revision in milk prices, and a spike in logistics and transportation costs.”

Providing the central bank perspective Rajiv Ranjan has spoken about the 3 Cs that are the core of the RBI thinking. According to Rajiv Ranjan, the first “C” is Caution. The inflation is not just about high and low, but being durable in aligning with the expectations. Inflation uncertainty is a bad thing and if that means the RBI has to be hawkish for longer, then that is acceptable. The second “C” is consistency. The central bank would not want to be in a position to change its stance and then realize that it had acted too early. It is this consistency in the words and actions of the RBI that imparts credibility, which is the third “C” in the picture. According to Rajiv Ranjan, Credibility stems from the faith that people have that the RBI would do everything in their power to control inflation and keep prices stable. After all, when inflation rises, it is the most vulnerable sections of the society that get hit the worst. That is something that the RBI can ill-afford at this point of time.

• MICHAEL PATRA CONCERNED ABOUT FOOD PRICE SPILLOVERS

“The pace of easing of inflation has been disappointing so far, in the Indian context. Food prices are persisting for too long as the principal impediment to faster disinflation. The Indian economy remains hostage to intersecting food price shocks. Their repetitive occurrence calls for intensifying monetary policy vigil to ward off spillovers.”

According to Patra, what is commendable about the Indian economy is the resilience it has shown amidst weak global demand and the side-effects of the Red Sea crisis. That is largely because the key driver of domestic demand continues to be robust in India. Indian corporates are investing heavily in capital assets in the hope that the capital investment cycle will turn around decisively. However, due to the sticky nature of food inflation, the RBI needs to use multiple tools at its disposal to ensure that inflation does not pose a risk to real growth. Patra admitted that another spike in food prices was expected from September and the RBI policy has to be fully aligned to that. Patra voted for status quo on rates and stance.

• RBI GOVERNOR HIGHLIGHTS MONETARY POLICY DIVERGENCE

“The global economy is resilient but growing at a slower rate than its historical trend. Inflation is easing unevenly across major economies. With varying growth-inflation dynamics across countries, the domestic factors in policy making have come to the fore. Accordingly, there are initial signs of divergence on monetary policy actions across countries.”

The RBI governor has expressed that while inflation in India was moderating, the disinflation was happening at a much slower pace. For example, in the last 3 months, the consumer inflation has been around the same level. This languidness can be largely attributed to food inflation, which remains elevated across key items in the basket like pulses, cereals, vegetables, and protein products. 

The governor pointed out that the 250 bps rate hike by the RBI was largely instrumental in taming the inflation monster from over 9% in 2022. Also, this has been instrumental in bringing down the inflation expectations, which is a major item on the agenda of the RBI. According to the governor, the resilient growth in GDP of the last 3 years, has allowed the RBI to keep its single-minded focus on inflation control. A lot has been done and it would be too early to lower the guard. 

To sum up, the majority of the members of the Monetary Policy Committee (MPC) continue to be primarily focused on current inflation. Ashima Goyal and Jayanth Varma have rightly raised the concerns that the current policy may be sacrificing growth. However, the best answer has come from Michael Patra who ahs focused on consistency and credibility of the RBI. At the end of the day, it is not whether the RBI is right or wrong that matters. It is how consistent and credible it has been. That is a role, RBI has played to perfection.