*****A jolt from RBI: Consistently underestimating inflation raises questions over central bank’s forecasting abilities | The Indian Express

Clipped from: https://indianexpress.com/article/opinion/editorials/inflation-rbi-forecasts-interest-rate-hike-covid-19-economy-7901644/

In recent times, there has been marked variance between actual inflation and the RBI’s forecasts. In its February policy, the RBI had projected inflation at 4.5 per cent for 2022-23. Two months later, it raised the forecast to 5.7 per cent.

Through the pandemic, the RBI, under Governor Shaktikanta Das has exuded confidence in its handling of the crisis, marshalling a range of policy instruments to support the economy during this tumultuous period. (File)

On Wednesday, in a surprise move, the monetary policy committee (MPC) of the Reserve Bank of India (RBI) voted unanimously for an off-cycle hike in the benchmark repo rate by 40 basis points. While both the timing and the quantum of the hike were unexpected, the off-cycle meeting, held just a month after the last one, is perhaps the clearest indication that the committee has been underestimating the price pressures in the economy, and has fallen behind the curve when it comes to managing inflation. As the RBI Governor’ statement suggests, this hike is just the beginning of the tightening cycle. Considering that in the initial days of the pandemic the MPC had cut the repo rate in two tranches of 75 basis points and 40 basis points, the decision to raise rates by 40 basis points now suggests that another 75 basis points’ hike will be needed to simply revert to the pre-pandemic level.

More from Express Opinion |With repo rate hike, RBI has done what’s necessary

In recent times, there has been marked variance between actual inflation and the RBI’s forecasts. In its February policy, the RBI had projected inflation at 4.5 per cent for 2022-23. Two months later, it raised the forecast to 5.7 per cent. However, considering current trends — global commodity prices remain elevated, food price pressures are likely to continue, and core inflation remains elevated signaling that price pressures are broad-based — it is increasingly likely that inflation will come in significantly higher than even the revised forecast, more so in the first half of the year. In fact, it is quite likely that actual inflation will surpass the upper threshold of the RBI’s inflation targeting framework for three quarters of this year as well. Breaching the threshold will compel the RBI to write to the government to explain the reasons for its failure to rein in prices, and recommend remedial action. No central bank will relish the prospect of having to explain why it missed keeping inflation within the target. Consistently underestimating inflation will also raise questions over the central bank’s forecasting abilities, and erode its credibility.

Through the pandemic, the RBI, under Governor Shaktikanta Das has exuded confidence in its handling of the crisis, marshalling a range of policy instruments to support the economy during this tumultuous period. On Wednesday, it appeared as if the central bank was less certain. The MPC has hiked rates even as it has retained its accommodative stance. It has also chosen not to provide an updated inflation forecast even as it acknowledges that “global price shocks pose upward risks to the inflation trajectory presented in the April MPC resolution.” Granted there is considerable uncertainty over the trajectory of inflation — the geopolitical situation and supply chain disruptions due to spikes in Covid infections in economies will impart upside risks to inflation. But surely the decisions of the MPC are guided by some expectation of future inflation. These should have been disclosed.

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