Policy easing call this cycle to be more data-dependent: MPC member Saugata

This (West Asia conflict) is just one of the sources of uncertainty, albeit the 800 pound gorilla at the moment

Of the six members of the Reserve Bank of India’s (RBI’s) Monetary Policy Committee (MPC), only Saugata Bhattacharya voted for a 25 basis point rate cut in the June policy, with the other members weighing in in favour of 50 basis points. Bhattacharya, in an interview on the phone with Manojit Saha, says action on rates will be based on incoming data, given the elevated levels of uncertainties. Edited excerpts:

 

You talked about uncertainties while voting for a small rate cut. Now the West Asia crisis has escalated.  How do you see the dramatic escalation of conflict and its impact on the exchange rate, prices, and monetary policy?

 

Here I am speaking only for myself and these are my personal opinions.

 

It is difficult to understand the ramifications of, let alone quantify, this type of geopolitical shocks. Rather than specific events, we need to get a sense of the effects of the totality of the various vectors of uncertainty. The core issue was that, during the meeting, various assumptions had been made for models and qualitative forecasts, and those assumptions were liable to change very quickly -- in a matter of days if not weeks.

 

This (West Asia conflict) is just one of the sources of uncertainty. The degree of trade and tariff uncertainty might have diminished since the April MPC meeting but the contours remain just as fluid and the overall level can be expected to remain elevated. So caution is deeply embedded in my thinking. 

 

There are many other ongoing processes which add to this. India's forthcoming reciprocal tariff deadline with the United States (US), the relative contours, versus India’s, of the various free-trade agreements which other countries will potentially sign with the US. The response of governments and central banks is another consequent unknown. My statement just alludes to the heightened degree of uncertainty.

 

In addition to this uncertainty, I need to emphasise that the RBI’s dynamic and adept liquidity management since January has shaped my approach. The series of liquidity measures have led to a de facto deeper easing by, inter alia, anchoring short-term rates below the repo rate and accelerating transmission, reinforced by clarity in communicating intent. The collective and cumulative impact of such action on effective easing gave me the confidence to vote for a smaller repo cut.

 

Yes, that cautious approach is reflected in your MPC statement, which was shorter this time…

 

There are two reasons why I kept the statement short. In this elevated uncertainty, the confidence intervals of any quantification of economic paths become wide beyond a point. Second, and more important, other than a couple of important data updates, everything that I had described in detail in my April statement stands pretty much true. There was not much more to elaborate. The contours of uncertainty have shifted, but still remain very much in flux.

 

At the same time, while the inflation outlook provides space for policy easing, the growth impulses, both in the near past as well as forecast in FY26, do not necessitate front-loading rate cuts. Even factoring in potential growth data revisions in FY25 and FY26, economic activity, going by current high-frequency indicators, remains resilient. If you recall, in the April minutes, I had noted that the forecast inflation path had opened up more space for “good news” policy easing. Yet, the resilience of economic activity did not as yet necessitate additional “bad news” actions associated with prospects of a serious growth slowdown. The same balance holds true even now. 

 

Despite voting for a 25 basis-point rate cut, why did you favour a change of stance to “neutral”? We understand that the stance change was to signify that the big cut left limited space for further easing.

 

The reason for my concurring with the change in stance was that after the majority of the Committee members decided on the 50 basis point cut, irrespective of my vote, the logical shift was back to “neutral”.

 

The need was to pause for a while, given the deep cumulative 100 basis point cut (soon to be) in place, observe the effects of the policy cuts and liquidity infusion, monitor the incoming data and evolving macro-financial trends and conditions, etc. 

 

As an ex post thought experiment, I would likely have recommended a stance change back to “neutral” at the August meeting, presuming the repo rate was cut to 5.5 per cent at that point. But since ex ante, the rate had been cut to 5.50 per cent, it made sense to shift the stance.  

 

Recall that even in my April meeting minutes, I had recorded that I had prior reservations on changing the stance from “neutral” to “accommodative”. But I had gone with the majority view on the shift. The elevated uncertainty even then warranted that policy decisions be taken considering incoming data on a “meeting-by-meeting” basis.

 

In the “neutral” stance, the option of pausing still remains.  This was the collective message sought to be conveyed that policy-easing decisions in this cycle would henceforth be more data-dependent rather than a pre-committed easing.

 

Bond yields hardened despite a 50 basis point rate cut. How do you see the bond market reaction to this stance change?

 

This was not unexpected. Bond markets, particularly the longer end, are more forward-looking, responding more to expectations than to the actual, current action. The steepening of the yield curve is just the term premia getting re-priced as this easing cycle draws close to a presumed neutral rate. You will see similar patterns of bond yields movement during the past rate cycles, with an element of asymmetry also evident during past easing and tightening cycles.

 

The RBI governor’s subsequent follow-up clarifying statements that the future inflation trajectory might open up space for further policy easing had a moderating influence on longer-term IGB (Indian government bond) yield. Thereafter, of course, other geopolitical events are likely to have had adverse effects.

 

Let me reiterate that the RBI’s agile liquidity management has helped anchor short-term rates below the repo rate, which reinforces transmission to the most relevant rates for monetary policy easing, ie lending rates of financial intermediaries.

 

Do you think the weighted average call rate should align with the repo rate?

 

This is a very context specific issue.  In a conventional monetary policy operating framework, the weighted average call rate (the operating rate) should be close to the repo rate. This is particularly true in a neutral, steady-state policy phase.

 

However, in an easing (and conversely in a tightening) phase, rapid transmission of the policy rate into the spectrum of consumer and market interest rates requires a calibration of system liquidity at an appropriate surplus (or deficit) which, at least in the initial phase of the cycle, helps to move overnight and short-term rates towards the lower (or upper) bounds of the LAF (liquidity adjustment facility) corridor. This might aid transmission, by lowering (or raising) the short-term cost of funds for banks. As this cycle matures, and transmission deepens, the weighted average call rate will likely start being guided back up close to the repo rate. 

 

I stated, even in the April minutes, that surplus liquidity at this point in the easing cycle is as important a conduit for transmission of monetary policy as the repo rate itself. However, this is only a view, since liquidity management is not the remit of the MPC. 

 

Do you see a further scope for rate cut, given the growing uncertainties?

 

Given the present, evolving and likely continued elevated levels of uncertainties, rate actions will have to be based on the incoming data and an assessment of the associated macrofinancial environment. It is difficult to provide guidance at this point. The stance change signalled that future rate action will have to be on a meeting-by-meeting basis. The RBI governor has articulated this succinctly.