Space to cut rate, but cautious about a pre-set easing path: RBI MPC member

At this point in time, the balance between growth and inflation is clearly tilted towards the need to support growth. RBI's forecast for FY26 growth is 6.5 per cent, Bhattacharya said

With inflation expected to remain moderate amid global uncertainty, there is policy space to cut interest rates, Saugata Bhattacharya, external member of the Reserve Bank of India’s Monetary Policy Committee, said while adding he favours a ‘meeting-by-meeting’ approach to policy easing, based on incoming data. He also said there was no voting by members on the stance in the April policy review meeting, which is not mandated by law, in a telephonic interview to Manojit Saha. Edited excerpts:

 

The MPC has changed the stance in the April policy to accommodative, which means the policy repo rate can either be lowered or left unchanged. Do you see further scope for reduction in the policy repo rate?

 

At the outset, let me clarify that I am speaking only for myself and these are my personal opinions.

 

At this point in time, the balance between growth and inflation is clearly tilted towards the need to support growth. RBI’s forecast for FY26 growth is 6.5 per cent. If the tariff measures, retaliation, etc persist – I am talking from a sense of extreme uncertainty at this point in time – even if there is a short-term increase in inflation, over the medium term inflation is likely to remain low or moderate. On the other hand, the resulting supply chain dislocations are almost certain to reduce global trade and growth, spilling over into India. So, I think there is monetary space for further cuts in the policy repo rate.

 

RBI has also unambiguously signalled the need to support growth, with the series of proactive measures to infuse system liquidity, including the ones scheduled for May. They are pre-emptively front-loading liquidity infusion for the month of May. The two together – the potential for further cut in the repo rate and the commitment to keep system liquidity in surplus – will help accelerate transmission of policy easing into the entire spectrum of interest rates.

 

Is the aim of the large liquidity infusion for quicker transmission? RBI had earlier said it takes two quarters for effective transmission. Is transmission expected to be faster than that with this large liquidity infusion?

 

The ultimate objective of monetary policy easing is transmission into the relevant interest rates – lending rate, deposit rate. I believe the timelines for fuller transmission might be shorter now. More than 60 per cent of lending rates are now reportedly linked to external benchmarks – these move with the repo rate over a very short time span. With system liquidity likely to remain comfortably surplus, deposit rates are also likely to be reduced, which will facilitate accelerated transmission into the MCLR-based rates as well.

 

You expect transmission to be accelerated on the deposit rate front also…

 

Yes, because of the extent of (and commitment to) liquidity infusion. Also note the signal conveyed by the characteristics of the two types of liquidity infusions – “sold” liquidity versus the “lent” liquidity. “Sold” liquidity is via the OMO bond purchases – more in the nature of permanent liquidity; “lent” is liquidity infused through the variable rate repo auctions which, despite RBI’s stated commitment to replenishments via daily and term auctions, still retain an element of borrowed funds. Remember that the RBI Governor had earlier stated that surplus liquidity of about 1 per cent of NDTL was appropriate. The demonstrated commitment to keep liquidity surplus will also help financial intermediaries better plan and manage structural limits, further helping transmission.

 

Some time back RBI came out with a report indicating real interest rate or the neutral rate to be 1.4 to 1.9 per cent. With the current growth-inflation dynamics, what do you think should be the appropriate real rate?

 

Yes, RBI had estimated the real natural (neutral) rate to have been 1.4–1.9 per cent in the fourth quarter of FY24. This natural rate is based on the risk-free rate which is usually the 90-day Treasury bill rate, which is about 20–30 basis points above the policy repo rate in a steady state. Hence, based on RBI’s 4 per cent average inflation forecast for FY26, the neutral rate might be anywhere between 5.1 and 5.6 per cent. In an environment where inflation is likely to remain moderate and growth is still recovering, I would tend to lean towards the lower end of the band. I need to emphasise though that these estimates are very time- and context-specific. The appropriate policy response function will need more analytical updates on estimates of potential output, the shape of the Phillips curve, etc. Given the level of uncertainty at this point, however, I would favour a “meeting-by-meeting” approach to policy easing, based on incoming data. I absolutely support the need to lower borrowing costs, but gradually and cautiously.

 

In the MPC minutes, we do not see the commentary on voting on stance. Did members vote on stance as was the practice in the last few years?

 

At the April policy meeting, as the MPC statement records, there was no voting on stance. The 2016 RBI Act amendment on the MPC does not mention stance. To the best of my knowledge, voting on stance was introduced in October 2018. Stance is largely a signal, a forward guidance. The RBI Governor has succinctly elucidated the thinking on stance in his post-meeting statement. In the minutes, I have stated that I had some prior reservation in changing from neutral to accommodative in the context of the pervasive uncertainty. During the deliberations, however, it was clarified that an accommodative stance simply meant that “a rate hike was off the table”, while including the option of a pause. Given the evolving and expected growth-inflation balance, the likelihood of conditions which might need an increase in the repo rate at this point is very remote. As I have mentioned earlier, there is both a need as well as the monetary policy space to cut the repo rate, but I want to be cautious about committing to a pre-specified easing path.

 

In the minutes, you have said India’s FY26 external balance might also become a matter of concern. Can you shed some light on this issue?

 

There are a couple of issues on the current and capital account sides of the external balance. On the capital account, if the present uncertainty over global central banks’ policy actions as well as the underlying economic, trade, and fiscal responses persist, many capital flows might be adversely affected, particularly equity-related flows, both portfolio and FDI. Investment decisions will be held in abeyance.

 

The likely path of India’s current account is even harder to visualise, particularly our merchandise trade deficit. If growth slows, the deficit will depend both on households’ consumption behaviour as well as diversion of foreign goods from other markets into India. Households can respond to a growth slowdown by either reducing consumption or savings. Coupled with the likelihood of lower investment, this should shrink the trade deficit. However, a substitution of domestic output with foreign imports in the consumption basket might lead to the opposite outcome. In addition, I also remain a bit worried about lower remittance inflows in a slowing growth environment. These trends will need close monitoring.