RBI December 2023 MPC minutes focuses on the resilience of GDP growth

24 Dec 2023 , 10:14 AM

GDP growth was the big theme of December policy

As is the normal practice, the RBI announced the MPC minutes a full 14 days after the RBI monetary policy statement. It may be recollected that when the RBI had announced the monetary policy on December 08, 2023, the repo rates had been held at the current level of 6.5%. However, the significant aspect of the policy statement was that it sharply hiked the GDP forecast for FY24 by a full 50 bps from 6.5% to 7.0%. 

That was after the GDP growth for the second quarter ended September 2023 came in sharply better than expected at 7.6%. While inflation had also tapered, the RBI was not taking any chances and held its inflation estimate for FY24 at 5.4%. However, the big game changer in the policy was the clear statement on the GDP growth. The experiment that the RBI had started in April of holding policy rates at 6.5% has continued till December. 

One thing it ensured is that corporates did not face the challenge of higher cost of funds and that translated into higher growth in GDP. In the December policy, the RBI had not only maintained status quo on rates at 6.5%, but had also held on to its monetary stance of “withdrawal of accommodation.”

A new perspective from the Federal Reserve

The big event between the policy announcement by the RBI and the minutes is the sharp change in the stance of the US Federal Reserve. In its December policy statement, the Fed spoke less about hawkish risks to the economy. Instead, the Fed has gone ahead and given a guidance of 3 rate cuts in 2024 and another 4 rate cuts in 2025. 

That would imply total rates being cut by around 175 bps by the end of 2025, which marks a clear reversal of stance. The Fed, it looks like, is done with its aggression on rate hikes and now prefers to veer towards cutting rates. The Fed may have been fortunate that its growth engine is still robust, but now the Fed will not be taking chances. It has announced an official shift towards lower rates, and that means rate hikes may be done and dusted. 

Even if the Fed has not said that openly, the CME Fedwatch believes so. A lot has changed since the RBI announced its policy statement and in the intervening 15 days, the Fed has literally undergone a change of heart. It is in this context that the RBI published the minutes of the December MPC meet on 22nd December 2023. Here is a gist of the views of the RBI MPC members as captured in the minutes of the MPC meeting.

Shashank Bhide feels risks to growth are still an issue

“The growth momentum while strong, it certainly points to a few concerns as we go forward. Uneven performance, both on the production and demand fronts is evident. On the production side, the agriculture & allied sector and services registered low and modest rates of growth in Q2.”

Shashank Bhide is right when he says that agriculture has been the sticky spot for the Indian economy in recent quarters. Be it erratic monsoons, intermittent floods, supply chain constraints or delayed Rabi sowing; the agricultural sector has been beset with challenges. That is one factor which would warn the RBI not get to sold on to the growth idea. That explains why the MPC has still maintained neutral rates and have also held on to their stance of withdrawal of accommodation. It just aligns better with inflation control.

Bhide voted for a status quo on the repo rates and to remain focused on withdrawal of accommodation. According to Bhide, growth could be a two-way street with a wide range of possibilities. Already, global demand has been under pressure that has been persistently hitting export growth. However, Bhide has sustained the stance on the ground that despite the fall in inflation, the average inflation still remains more than 150 bps above the RBI long term target rate for inflation. That justifies the rate decision and the monetary stance.

Ashima Goyal feels global interest rates may have peaked

“There are signs that global interest rates may have peaked. Fears that rates may be higher for longer have also faded as the US Fed has recognized that rates are already restrictive and becoming more so as inflation falls. Using 1970s to justify higher rates is not valid since inflation has not been high for as long as it was then; and expectations remain anchored.”

What Goyal says is best captured in the intervening period of 2 weeks between the RBI statement and the RBI minutes. During this period, the Fed has changed tack from talking about rate hikes to giving guidance on rate cuts. That is largely in sync with the view expressed by Goyal that global rates may be on the way down and that should be a signal to the RBI to also start looking in that direction. However, Goyal has added that even as capital investment has been the icing on the cake, consumption remains a moot point.

However, Goyal has also sounded a note of caution. A lot of the growth is currently coming from growth in sales and fall in global commodity costs. Most of the demand growth is coming from capex demand and less from consumer demand. Goyal has also cautioned that if inflation fell below 5%, then real rates may become too high. That is a broadly indication that the RBI would also be looking at rate cuts; sooner rather than later.

Jayant Varma believes that growth may actually be back in India

“Current indications are that, after a spate of difficult quarters, the economic environment is turning more benign in terms of both inflation and growth. The challenge for monetary policy is to facilitate this benign outcome where inflation trends down and growth remains robust. It is all about creating and sustaining that goldilocks effect.”

The gist of Varma’s view is that, if the RBI really is serious about bringing inflation down to 4% mark, then a slightly restrictive monetary policy may have to continue for some more time. That means, the RBI may follow the Fed on rate cuts, rather than precede it. However, in the even of falling inflation, it is essential to ensure that the real rates do not become inordinately high. The real rate of interest in India is already high at over 2%.

According to Varma, it is essential to keep the real rate of interest around the 1.5% mark, which would be more like an optimal level. For now, that is not an issue as inflation is still very volatile. But, once the inflation shows a secular downtrend, it may be time to switch gears for the RBI. However, that may still be some time away. Like in the past, Varma skipped the vote on monetary stance as the stance did not have much relevance in the light of the RBI holding status quo on rates for 5 MPC meetings in a row.

Rajiv Ranjan prefers to maintain the current stance

“The best way monetary policy can support the current high trajectory of GDP growth is by maintaining its commitment to price stability. While monetary policy has succeeded in getting headline inflation into the tolerance band, it is still substantially above the 4% target and continues to remain vulnerable to supply shocks.”

Rajiv Ranjan pointed that while core inflation has been consistently trending lower, it is the food inflation and fuel inflation that have contributed to most of the pressure on the headline inflation number. The moral of the story is that the inflation figure is likely to remain vulnerable to shocks. Even if the nominal GDP growth remains steady, the real GDP growth would still get impacted by the spike in inflation.

According to Ranjan, the monetary policy in the current context must continue to treat a cautious and prudent path. Ranjan not only voted to keep the rates static at 6.5%, but also voted to maintain the monetary stance as withdrawal of accommodation. Ranjan feels that such a stance will not only keep inflation in check, but also ensure that the transmission of rate cuts done till now happens in right earnest. He also felt that while there may be an outside case for shifting the stance to neutral, the current economic flux situation was not the right time. That decision may have to wait for a later date.

Michael Patra believes monetary policy must still remain alert

“Inflation remains highly vulnerable to food price spikes, as the spurt in momentum in daily data on key food items for the month of November and December reveal. This repetitive incidence is causing the accumulation of price pressures in the system and could impart persistence. Households are already wary that inflation may rear its head again.”

Michael Patra has reiterated that the focus of the RBI is still inflation first and the talk about RBI shifting focus to growth was a myth. The difference is that inflation today has become a lot more complex with extraneous factors playing a major role in inflation; especially in food inflation. The stance of withdrawal of accommodation and the readiness to take necessary action is at the core of the RBI stance on price stability. That is the reason, Patra voted to continue with the status quo on rates at 6.5%, but also voted in favour of the monetary stance of withdrawal of accommodation. 

According to Patra, with the growth in GDP, we could see the nature of inflation shifting from being supply push to demand pull. But, that still means that while the nature and colour of inflation changes, price stability will still be the big challenge for the RBI. That is why, Patra feels that monetary policy will have to necessarily assign a higher weight to inflation relative to growth, in a forward looking sense. 

RBI Governor still focused on 4% inflation target

“The years 2020 to 2023 will go down in history as the period of Great Volatility. The Indian economy has presented a picture of resilience and momentum as reflected in the higher than anticipated GDP growth in Q1 and Q2 of FY24. To reflect, this new normal, RBI growth projection for FY24 have been raised to 7%. Growth momentum looks set to continue.”

The RBI governor has made 3 important points. Firstly, he underlined that the tapering of inflation post July has given credence to the view that the surge in inflation in 2021 and 2022 is now a thing of the past. Secondly, Das also underlined that while the structural core inflation has shown a sharp downward trend through 2023, it is the volatility in food inflation and fuel inflation that have been the real swing factors. Thirdly, Das underlined that even in the midst of a challenging environment, GDP growth was still robust across most sectors with strong externalities. However, these growth triggers cannot be taken for granted and a supportive policy framework was always needed; which hit the two birds of enabling GDP growth while keeping a constant tab on inflation.

Parting thoughts on the RBI MPC December 2023 minutes

The gist of the MPC minutes is that, the RBI is unlikely to be in a hurry to cut rates or turn dovish. For now, inflation will remain the primary concern and the best the RBI will do is to create enabling conditions for GDP growth. Much of the growth thrust will still come from the realm of fiscal policy. The moral of the story is that the inflation time series is still too volatile to clearly indicate that it is under control. For now, the RBI will have to focus more on being prepared than trying to take the data head on. The need of the hour is not aggressive action on the rates front. The need of the hour is for the RBI to be ready with Plan-B and remain data driven. That is exactly what the RBI appears to be focusing on.