The Reserve Bank of India decided to leave interest rates unchanged in the recent monetary policy review.
How is the inflation scenario?
The RBI now expects retail inflation to stay below the legally mandated 4% mark for the coming 12 months.
Resultantly, RBI has sharply cut its inflation forecast for the second half of the current fiscal year - from 3.9-4.5% to 2.7-3.2%.
For the first half of the next financial year, it has been revised from around 4.8% to 3.8-4.2%.
The RBI’s own household survey of inflation has shown a 40 basis point downward movement over the last round.
Retail inflation is expected to fall further. E.g. the November data is estimated at 3%
The dip in retail inflation is largely a result of the unexpected deflation in food items such as pulses, vegetables and sugar.
What is RBI's rationale?
Over the policy reviews, RBI has maintained its single-minded focus on targeting only retail inflation and inflation expectations.
But despite a favourable inflation trajectory, the monetary policy committee did not cut the repo rates.
An analysis of the components of retail inflation explains this.
Evidently, the headline retail inflation, mapped by year-on-year changes in the consumer price index, has decelerated sharply.
This is primarily driven by the sharp decline in food and fuel prices.
However, the non-food, non-fuel retail inflation has actually risen to over 6%.
Moreover, the RBI is worried about
the residual impact of minimum support prices
possible fiscal slippages
a sudden increase in oil prices if the OPEC countries decides on production cuts
So the RBI wants to pause and decide only after ensuring the decline in inflation is of a more robust nature.
What is RBI's stance on growth?
The Q2FY19 gross domestic product (GDP) data undershot the RBI’s projection.
However, the RBI maintains its annual forecast of 7.4% GDP growth in the current financial year.
Economic growth has suffered in most of the advanced world.
Both the US and the euro area have slowed even as Japan has contracted in the past quarter.
Moreover, several emerging economies such as China and Russia, too, have decelerated.
Yet, the RBI sounded relatively confident about the domestic economy.
It highlighted the increased capacity utilisation in manufacturing sector, improving credit offtake and lower crude oil prices that may boost consumption.
Notably, capacity utilisation in manufacturing sector rose to 76.1% in Q2, higher than the long-term average of 74.9%.
Also, industrial firms reported an improvement in the demand outlook for Q4.
But besides these, RBI has once again raised a cautionary signal to governments, both at the Centre and in the States.
Fiscal slippages risk impacting the inflation outlook, heightening market volatility and crowding out private investment.
Instead, this may be an opportune time to bolster macroeconomic fundamentals through fiscal prudence.
