The tightening cycle ends?

While the RBI appropriately still sees inflation as the dominant risk, growth risks are gaining importance in RBI’s policy deliberations. We are, consequently, now very close to the end of the tightening cycle.

While RBI’s concerns about the global economic backdrop were not surprising, they sounded distinctively more cautious this time around about the domestic economy, including the prospects for investments.

On the inflation front, the statement noted hope in light of the recent moderation in sequential inflation rates. RBI also listed numerous sources of upside risks to inflation, including from elevated global commodity prices, the depreciated exchange rate, overly loose fiscal policies, and structural supply-demand imbalances.

 

While RBI may pause in the near term, the policy rate is not coming down any time soon by the sound of it. For example, the forward guidance in the policy statement only talks about a “low probability” of a hike in December and that rate hikes “may” not be necessary thereafter. In other words, rate hikes are not yet off the table.

Moreover, lack of progress on fiscal consolidation and structural reforms to lift supply constraints would according to RBI add to medium-term inflation risks, which would then have to be factored in when determining the monetary policy stance. The probability of slow progress in these areas is quite high, increasing the probability that RBI will have to keep the rate at current levels for an extended period.

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Leif Eskesen
Chief Economist for India & ASEAN, HSBC