'RBI rate hike was moderate as CRR was also raised': Ashima Goyal

Monetary policy committee says decision to cut repo rate was at the correct time.

Ashima Goyal, a member of the Reserve Bank of India’s monetary policy committee (MPC), has said the withdrawal of the ultra-accommodative monetary policy will continue though its pace will depend on data. In a surprise move two weeks ago, the MPC met unscheduled and decided to increase the repo rate by 40 bps to 4.4 per cent. It also hiked the Cash Reserve Ratio by 50 bps to 4.5 per cent.

What follows is an edited e-mail interview Goyal gave to Manojit Saha.

In the minutes (of MPC’s meeting) you said, “In view of a reasonable recovery and the sharp rise in inflation, which will also raise inflation projections, frontloading of rate hikes is required to prevent the real rate becoming too negative.” How much interest rate increase would you support in the first half of the current financial year which could prevent real rates becoming ‘too negative’?

Rate increases will depend on incoming data and its implications for inflation forecasts and for growth. If demand remains weak the equilibrium real rate will still be negative. If there is some supply-side action, or commodity price shocks moderate, the rise required in rates will be less. The withdrawal of extra-ordinary accommodation will continue, but the pace depends on data.

What are the supply-side actions from the government you will suggest to tackle inflation?

Food and fuel inflation together have in the past led to second round effects. In the short-term, government actions to moderate these could be very effective. In the longer-term, efforts to remove supply-side bottlenecks, improve productivity, and the cost of living and working in India are reducing chronic cost push.

 

What was the reason for a 40-bps rate hike, because 40 is an odd number? Typically, rate hikes are in multiples of 25.

The 40 bps hike was part of reversing the pandemic-time accommodation, which had included a 40 bps cut. The rate rise was moderated slightly since the CRR was also being raised.   

Will reversing the 115 bps rate cut during the pandemic period be enough for tackling inflation. Or you see much bigger repo rates hikes are required so that inflation does not breach the upper limit of 6 per cent for three consecutive quarters.

A repo rate rise works by raising costs of borrowing and reducing asset prices. But when credit growth is just coming out of a pandemic slump, unemployment is high and inflation is driven largely by supply-side factors, the output sacrifice of a repo rise is high and its impact on inflation minimal. Sharp increases also destabilize financial markets. But highly negative rates contribute to overheating. It is necessary to proceed carefully.

Does the April CPI inflation number, which was 7.8%, change your views expressed during the May MPC meeting?

No, since it was already clear that the persistence of the Ukraine war was creating large inflation pressures.

So you think MPC was late in changing its focus on inflation and that it should have acted early?

The MPC could not raise the repo rate until the LAF (liquidity adjust facility) corridor was normalized. In Indian conditions, where only commercial banks can succeed the LAF, the call money rate can fall below the reverse repo. Adjustment of liquidity started last year. As the pandemic was just tapering, labour market and demand were soft, and inflation projections were low prior to the Ukraine war the process of reversal of accommodation was proceeding at the slower pace appropriate then. Markets had already over-reacted to US inflation and potential Fed action. Early MPC action would have increased that over-reaction.