Retail inflation dipped below the Reserve Bank of India’s (RBI) tolerance band in November on softening food prices. But it would be premature to see this as a turning point in its rate tightening cycle.
Retail inflation dipped below the Reserve Bank of India’s (RBI) tolerance band in November on softening food prices. But it would be premature to see this as a turning point in its rate tightening cycle. The easing in food inflation was seasonal, on account of vegetables, while cereal prices remained elevated. A high base effect was also in play with inflation ticking up a year ago. And, from RBI’s perspective, core inflation, excluding volatile food and fuel prices, is still stubbornly above the policy band, offsetting some of the gains of real interest rates turning positive for the first time in this upcycle.
Persistence of core inflation is affecting demand, with consumer goods output continuing on a course of contraction during October despite festive sales. Services have gained pricing power, tapping into pent-up demand, although manufacturing has lost some ability to pass on input costs. With the narrative swivelling to demand-led core inflation, RBI’s rate actions will be governed by its assessment of the effects of cumulative rate hikes undertaken since May. After its latest monetary policy review in December, where it hiked rates less aggressively, the central bank’s stance remains accommodative. A pause in the interest rate cycle would ideally coincide with the monetary stance turning neutral.
RBI will also be informed by the prolonged departure of inflation from its policy band under extenuating circumstances. The account of policy inadequacy as has been communicated to the government is to be accompanied by remedial actions and a timeframe for achieving the inflation target. Making this account public would burnish RBI’s credentials as an independent monetary authority, but might compromise policy efficacy by revealing its course. Shaktikanta Das has, in public comments, offered a broad indication of the timeline for retail inflation to approach 4%. RBI has been consistently clear in its communications to the market that the battle against inflation is unlikely to provide scope for quick policy reversal.