RBI MPC members agree to disagree

What the monetary policy had announced

On June 22, 2023 the RBI announced the minutes of the Monetary Policy Committee. As is the norm, it was announced exactly 14 days after the Monetary Policy announced by the MPC on June 08, 2023. Back in early June when the policy was announced, it was largely along expected and had maintained status quo on repo rates at 6.5%. The RBI had already hiked the rates from 4.0% to 6.5% between May 2022 and February 2023. 

Subsequently, the RBI had paused in April 2023 and had once again paused in June 2023. The decision was unanimous with all the six members of the MPC voting to hold rates at 6.5% in June. However, the vote on the monetary stance was not unanimous with Jayanth Varma dissenting on keeping the monetary stance as a withdrawal of accommodation. He felt that this type of monetary stance was not in sync with the economic reality.

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Why did the RBI hold rates at 6.5% in June?

There were a number of reasons why the RBI had decided to maintain the status quo on rates in the June policy. Firstly, inflation control was the primary objective of the RBI and that had come down sharply to 4.25% for the month of May 2023. Now, India's consumer inflation is just 25 bps away from the long-term RBI target, whereas in the US consumer inflation is still a good 200 basis points away from the target of 2%. Also, the RBI is reconciled to the fact that the impact of the rate hikes on inflation would be gradual and stretched. 

The third reason why the RBI decided to hold rates was that the Indian industry had some major reservations about rising rates since it was pushing up the cost of funds of Indian corporates. That impact was evident in falling net margins and worsening solvency ratios. Above all, the RBI was also convinced that the real rates (net of inflation) were already above 1.5% and hence any threat of risk-off flows from Indian debt was non-existent now.

Despite consensus, dichotomies are widening

Why do we say that the dichotomies are widening within the MPC? Remember, the vote is quite often a compromise decision in the larger interest of arriving at a decision. However, the minutes put out the discussions in detail and that made it evident that dichotomies are widening. Here are a few cases where dichotomies are widening within the MPC.

• On the one hand, members are still confident that the rate hikes had managed to bring down inflation appreciably. However, some members were also concerned that the inflation could spike if global headwinds added up or if the food inflation situation worsened due to the inordinate delay in the monsoons this year.
   
• On the growth front, most of the members were positive about the bounce in IIP and the GDP growth in the fourth quarter. They also expressed optimism about growth being better in FY24 than originally expected. However, there are also concerns that too much hawkishness could cause a global slowdown, impacting export demand. That is already visible in the monthly export numbers.
   
• Members of the MPC were almost unanimous that hiking rates were the best approach to containing inflation and even in future that option had to be kept open. However, the members also worried that with the rates already above the equilibrium rates, the incremental impact on growth could accelerate from here on. That must be avoided.
   
• Lastly, there is also a dichotomy in monetary divergence. Members of the MPC are unanimous that the decision to halt rate hikes in April and June was the right decision. However, there are also concerns that monetary divergence was not sustainable for too long since it would manifest in other forms.

The moral of the story is that despite the consensus on paper, the divergence of opinion is widening rapidly. Even within the consensus, there appear to be a lot of strong differences in opinion.

Quick take on what the members said in the minutes

Here we shall look at the views of the five members of the MPC other than the RBI governor. The governor is normally called upon to vote only if there is a tie on votes and otherwise he is not obliged to cast a vote. Here is what the five other members said.

1. According to Shashank Bhide, the Indian economy had finally entered the proverbial sweet spot. He was referring to a situation where inflation has fallen more than expected and even growth has bounced more than expected. That gave the RBI the leeway to go slow on rate hikes. However, Bhide also cautioned that inflation at a global level still remained the joker in the pack. He also underlined that the slowdown in service exports could have larger implications for GDP growth and for the CAD.
    
2. Ashima Goyal has highlighted the narrowing input / output price gap which resulted in record gross profit margins for Indian companies. Input costs have fallen but wage pressure is absent. According to Goyal, the RBI front ending rate hikes has now given them the comfort of equilibrium real rates of interest. Hence flows are not a worry and RBI could stay put despite divergence risks.
    
3. Once again Jayanth Varma dissented. He was quite emphatic that the current monetary stance was not attuned to the economic reality. According to Varma, holding a stance of withdrawal of accommodation was feasible when RBI had fully curbed inflation. That cannot be said with confidence now. He highlighted erratic rains and crude prices as two of the biggest threats to inflation. He warned that complacence was dangerous.
    
4. Rajiv Ranjan of the RBI made an interesting point that for any central bank, the decision on when to stop rate hikes was always a tough decision. He also pointed out that nobody can say with confidence how far or how much longer the terminal rates were. He added that the pause was the right step as it had a sobering effect on the cost of funds.
    
5. According to Michael Patra, the most important challenge for the RBI was to ensure that any economic shocks in future would vanish without leaving scars on the economy. He admitted that low inflation and robust growth gave RBI the luxury of buying time, which is what it has done. Any signals at this point were out of the question.

Finally, the view of the RBI governor always is like a last word. He again spoke about the importance of managing inflation expectations. Like Jerome Powell of the Fed, even Das admits he is in a zone of uncertainty. An important point was to be proactive in the fight against inflation rather than reactive. After all, durable inflation of around 4% was the key.

Content Source: RBI Website