Rajan preferred higher quantum of rate cut, ignored majority view of technical advisory panel

Three members suggested a reduction of 25 basis points would be a timely response avoiding falling behind the curve, signalling continuation of easy monetary policy

In deciding to cut the central bank's main policy rate, the repo, by 50 basis points (bps) in the recent review, Governor Raghuram Rajan overruled the majority view in his technical advisory committee (TAC) for  smaller reduction.

Of seven TAC members, three wanted a reduction of 25 bps. One member was open to 25-50 bps; two suggested a cut of 50 bps. And, one recommended the repo be not changed, according to the minutes of the discussion, issued by the central bank.

Those suggesting a 25-bp reduction said this would be a timely response, avoiding falling behind the curve, signalling continuation of an easier monetary policy and helping banks cut lending rates. With a repo rate of seven per cent (if cut by 25 bps) and inflation at 5.5 per cent, the policy rate would still be neutral, given estimates of the neutral rate between 1.5 per cent and two per cent, they felt.

One of these members also recommended forward guidance on risks to the medium-term growth and inflation estimates, and suggested a reduction in the statutory liquidity ratio by 50 bps. Those seeking a greater than 25-bp cut in the policy rate had felt corporate performance was the key driver of growth in the pre-global crisis period (before late 2008). Recovery of the industrial sector would be critical for achieving yearly growth of 8.5 per cent.

Growth of industrial production was tepid and real interest rates had risen sharply, more than offsetting the positive effects of a decline in commodity prices.

Moreover, there is comfort on inflation front – wholesale prices are contracting, the gross domestic product consumption deflator was low at around three per cent. Also, with vendors engaged in e-commerce offering low prices, retail inflation might be lower than what the headline numbers suggested. Therefore, a large rate cut at this juncture was warranted to take the economy out from the present drag, these members said.

Some felt the fiscal deficit target was difficult to achieve, given expenditure pressures from implementation of one-rank, one-pension, the impending seventh pay commission award, weak disinvestment, special assistance to some States, and slower domestic growth. Widening of the current account deficit in the context of sluggish investment activity was another concern. Some members believed the government should stick to the fiscal deficit target even at the cost of low investment to get credibility built into the system.