In balancing growth and inflation concerns, the MPC might soon run out of options
India’s monetary policy authorities are faced with an unenviable situation as FY22 unfolds: Pursuing contrary goals of promoting growth and keeping inflation under check. Amidst a surge in Covid cases, growth threatens to hit a speedbreaker all over again, just when high frequency indicators had begun to show signs of revival. Since March 2020, the Monetary Policy Committee has pulled out all stops in announcing liquidity enhancement measures, besides cutting the repo rate by 115 basis points. These steps have not led to any palpable improvement in bank credit offtake. If banks remained risk averse in times of negative growth, businesses too have decided to wait out the bad period by not borrowing much for working capital needs. The result was a yield curve where the short-end fell below the reverse repo level. As for the long-end, yields sharpened in March to rise above 6 per cent amidst global fears of commodity-induced inflation as well as the heightened government borrowing plan. Operation Twist, an exercise where the RBI purchases long-term instruments and sells short-term ones to keep the costs of government borrowing in check, seemed to lose effect.
Imported inflation seems to have played a major role in the recent surge. The RBI cannot do much here as the price rise in cost-push in nature, save allow the rupee to appreciate. However, there is also the prospect, as hinted by RBI Deputy Governor Michael Patra, of an outflow from emerging markets. Imported inflation is best tackled by fiscal policy in the form of reduced taxes and tariffs on fuel. In any case, it would seem that the MPC has done quite ‘all it takes’ to deal with the Covid debacle. The onus now lies on fiscal policy to deliver on both growth as well as inflation reduction.