RBI to support growth till economic recovery is sustainable

The Reserve Bank of India (RBI) has made it clear that it is going to look through the inflationary pressures, and will remain committed to supporting economic growth till the time such recovery is sustainable.

Governor Shaktikanta Das ruled out any talks of normalisation of the liquidity conditions – which is in abundance, or the repo rate – which is lower than the average inflation in the last financial year, and likely to be so this fiscal too, if the central bank’s own projections are to be believed.

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“Too premature to talk about policy normalisation,” Das said in the post monetary policy interaction with the media on Friday. The six-member monetary policy committee of the Reserve Bank of India (RBI) decided to hold rates for the sixth straight review meeting while announcing further bond-buying from the secondary market under its Government Securities Acquisition Programme (G-SAP). The central bank said the accommodative stance would continue as long as necessary to revive and sustain growth on a durable basis.

Overlooking inflation concerns

The emphasis on growth continues even as inflation projections have been revised upward.

“Amid the growth risks posed by the second wave, but rising inflationary risks and already low policy rates, the Reserve Bank of India (RBI) has maintained the status quo on policy rates and an accommodative stance, while mildly tweaking its state-based forward guidance,” analysts with Nomura said in a note.

“It pushed back against expectations of policy normalisation, stated that inflation is ‘not persistent’ … sounded reasonably optimistic that the second wave’s hit to growth will be limited to the April-June quarter,” the report said.

CPI inflation is projected at 5.1% for the current financial year, which is up by 10 bps as compared to its previous forecast made during the April policy review.

Growth pangs

GDP growth for the current financial year was scaled down to 9.5% by the central bank as compared to 10.5% projected in April.

“The communication tilts in favour of growth and the regulatory actions indicate the continued support from the RBI towards plugging liquidity gaps to specific sectors of the economy. We see a long pause from the RBI unless either growth or inflation surprises,” said Indranil Pan, chief economist of Yes Bank, who thinks there was little choice for the RBI but to keep policy rates unchanged.

“The growth-inflation mix is worsening for the RBI. The downward revision of the FY22 real GDP growth projection to 9.5% highlights the economy-wide stress to revive growth impulses. Though the RBI highlighted tailwinds to growth, in our view the downside risks to this print come from increased uncertainty through higher economic costs and health expenses going forward,” Pan said.

GDP growth contracted -7.3% in the previous financial year - the first-ever contraction in 40 years. Average inflation in the last financial year was 6.2%, outside the central bank’s tolerance zone of 2-6%. The central bank is of the view that current inflationary pressures are due to supply-side constraints, with demand continuing to remain weak. Apart from supply-side issues, the hardening of crude oil prices – with India importing 80% of its requirement – will also push up prices.

Fiscal support

The central bank seems to be banking on rapid vaccination for economic recovery – which is evident from its sharp downward revision in GDP growth in the first and second quarter of the current financial year while increasing the forecast for the remaining two.

Das suggested a policy package to consolidate India’s position as vaccine capital of the world and said, “…the vaccination process is expected to gather steam in the coming months and that should help to normalise economic activity.”

Vaccination in India remained slow with as little as 3% of the population having been fully vaccinated against the virus. The government, however, promised to vaccinate the entire country by the end of 2021 – though no roadmap or a plan on how to achieve such a steep target within six months has been announced.

“We are skeptical of a sharp pick-up in growth outlook in Q3 given the devastation in the rural economy and slow vaccination. Thus RBI forecast of 9.5% could be more of somber signaling of a weak growth outlook as of now,” said Soumya Kanti Ghosh, Group Chief Economic Adviser, State Bank of India.

Ghosh emphasised the importance of fiscal policy to revive growth as the headroom for monetary policy to boost growth has diminished.

“We firmly believe that even as RBI has taken many measures to reinvigorate credit offtake, it continues to be low because corporates have deleveraged by repaying high-cost loans through funds raised through bond issuances. Corporate willingness for new investments remains low among all-pervasive uncertainty. Only fiscal policy can rekindle animal spirits at this juncture – monetary policy has almost nil headroom,” Ghosh said.

He recommended the use of an automatic stabiliser route to manage fiscal levers. “This would mean that the fiscal deficit can purely go up via the automatic fiscal stabiliser route whereby a reasonable cut in fuel prices or even GST tax waivers for stressed entities could work wonders…. Otherwise, economic recovery will continue to be hamstrung at fuel prices more than Rs 100 when the economy opens up after lockdown,” he added.

It is over to New Delhi now for reviving and sustaining economic growth on a durable basis – which will then prepare the ground for the central bank to take the path of normalisation.

(The writer is a Mumbai-based senior journalist)