Don’t lose sight of inflation

The RBI’s Monetary Policy Committee (MPC) has stuck to the expected line by maintaining status quo on policy rates and continuing an accommodative monetary policy. It decided to keep the benchmark policy repo rate unchanged at 4 per cent and to maintain its policy stance “as long as necessary” to revive growth. The committee seems to have seen an immediate threat to growth in the new Covid-19 variant Omicron, which has created some uncertainty. As a result, it has revised the Q3 2021-22 growth forecast to 6.56 per cent from 6.8 per cent, though the full-year target has been retained at 9.5 per cent. The MPC thinks that the economy needs continued policy support. Private consumption, which is the main driver of growth, is below par and private capital expenditure is yet to attain pre-pandemic levels. There is volatility in global markets and supply networks still face impediments.

The MPC thinks that domestic economic activities are gaining momentum, and it has noted that “recovery is turning increasingly broad-based”. The Governors’ comments have expectations of “a durable, strong and inclusive recovery” but there are also concerns over its likely uneven nature. The MPC has retained its full-year forecast of inflation at 5.3 per cent in 2021-22, though it expects some changes in the third and fourth quarters. It thinks that the reduction in the excise duty and VAT on petrol and diesel, which have eased retail prices, is a positive factor. It has noted that this will also “have second-round effects over a period of time”. But inflation should not be dismissed as a factor of no serious consequence.

While there are strong arguments that demand persistence of the policy that supports growth, the primary mandate of the MPC, which is to keep inflation within its defined limits, should not be lost sight of. The committee’s forecast of 5.3 per cent is based on a likely decline in vegetable prices due to a good rabi crop and measures taken by the government to bring down edible oil prices, apart from the recent fall in crude oil prices. But the uncomfortable fact is that inflation has been near the higher end of its tolerance range for long and cannot be considered as transitory. Core inflation will likely remain at elevated levels globally, and other central banks have also recognised this. The RBI may be in a position to wait and watch now but it may have to drop its present stance soon and resort to monetary tightening to rein in prices. It cannot allow inflation to reach a stage when it can threaten the nascent economic recovery. The greater responsibility to push growth, in any case, rests with the government.

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