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Twenty-Seventh EGROW Shadow Monetary Policy Committee Meet held on March 29, 2023


Recording of the Event

Key Takeaways

  1. The Fed, Bank of England and European Central Bank have significantly moderated their stance in increase of interest rates after the sudden collapse of Silicon Valley Bank (SVB) followed by First Republic Bank and Credit Sussie.
  2. It is expected that the growth rate of GDP of India for FY2024 may slow down to 5.6 percent compared to 6.8% in FY2023.
  3. Consumer Price Index (CPI) exhibited that inflation is around 6.44 percent while Consumer Food Price Index (CPFI) is 5.95 percent, both lower than the January figures suggesting a decelerating trend and are expected to come down in the coming months.
  4. On the fiscal front, both direct and indirect tax collection seems robust.
  5. Increasing interest rates is affecting the housing demand which is connected with nearly 275 industries with forward-backward linkages and may have a huge negative impact on the economy.
  6. The oil prices are moderating to USD 79 from USD 95 in January, 2023 implying a considerable reduction in import bill.
  7. The liquidity will tighten quite significantly in FY 24 and the fact of the matter is that banks are having funding issues. Therefore, RBI should have a look into the situation.

Recommendations of EGROW Shadow MPC

Members of EGROW — 6

Repo Rate:
Increase by 25 bps — 3
No Change — 3

Guests — 2

Repo Rate:
Increase by 25 bps — 2
No Change — 1

Detailed Views by Members of the EGROW Shadow MPC

1) Dr. Surjit Bhalla, Former Executive Director, International Monetary Fund

First, it is well recognized that monetary policy, the cost of credit, affects investment and growth. However, most central bankers, whether they have a dual or single mandate, concentrate primarily on what they think is a more constructive role for monetary policy – the control of inflation.

This is where there is beginning to be a real departure from the norm. The global convergence of inflation rates, pre-Covid, brought into question the particular contribution of monetary policy to inflation control. The last two and a half years of supply shock driven inflation suggests that we should begin to question the role of interest rates in a supply shock world.

Now, let's turn our attention to what is happening in Europe and the United States. It seems that many of us follow the “Fed direction” without looking at the particular situation in each country. I think it's important to be particular about the domestic situation in India. Let's look at the European inflation, which is clearly affected by energy gas prices. In the US, I would encourage all of you to look at the CPI, seasonally adjusted for the last nine months since July. What you would find is that in the US, the adjusted average rate for the last eight months has been less than 3.5 percent, so why has the Fed hiked real rates to the highest level in the last thirty years? And what has been gained in inflation control by this strategy?

Raising rates “in a hurry” can cause financial troubles and banking crises. The banking crisis occurs, then obviously we can blame it on mark to market or anything else. But when in history have we seen such a remarkable rise in real policy rates? Never before.

The world has gone wrong, and policy makers have gone wrong. We have a real supply shock in India, but the first response of the RBI, apparently, is to raise rates without looking at what has caused the inflation to rise. And when economists and policy makers are in doubt, , we say we are anchoring expectations.

I won't be surprised if the RBI hiked rates, but I think it will be a mistake. I am definitely in the camp that says there is no reasonable justification for raising rates now. In addition, I don't understand the logic behind what the Fed is doing, what a lot of economists in the US are saying, as well as the forecast based on dot plots. If I understand it right, if the Fed raises rates by an additional 25 basis points over the next 3 months, and then cuts rates by 50 basis points over the subsequent six months, then what has been achieved besides the belief that monetary policy acts instantaneously rather than with long and variable lags. And there is doubt whether in today’s globalized world, whether monetary policy is as effective as in the past in affecting inflation.

2) Dr. Charan Singh, CEO and Director, EGROW Foundation

The global economy has witnessed significant changes in the last 4 weeks specially after the collapse of silicon valley bank (SVB). Since then efforts have been made to contain the risk to banking in the US. the sale of SVB has addressed the immediate concerns of the financial sector. The moderate rate hike by the US Fed on March 22 of 25 basis points reflect the concerns on the FEDs action as against the initial expectation of a rate hike of 75 basis points. The moderation in hike despite inflation above 6 percent indicates that the Fed is reconsidering its interest rate trajectory. UK and Europe despite persistence of high inflation rate has similarly moderated the hike in policy rates.

Domestically the economy is performing well. The performance of fertilisers, coal, electricity, steel, natural gas, cement and refinery products increased in January over the corresponding month of the previous year. Similarly, the Index of Industrial Production (IIP) has persistently exhibited positive growth in mining, manufacturing and electricity. The Purchasing Manager’s Index (PMI) - manufacturing at 55.3 in February 2023 is higher than January and the long run average of 53.7. The PMI has shown growth in straight twenty months. Similarly PMI- services at 59.4 in February is higher than in January. Business activity index is at its highest in 12 years. The high frequency indicators also shows a positive trend. The growth in sales in February of Two wheelers, Passenger vehicles, Tractors and Commercial vehicles is around 15 percent from previous month and is expected to be higher in March. There is a concern on the agriculture sector as El Nino weather conditions in the pacific could mean a weaker monsoon.

The fiscal performance of the government is encouraging. The amount of GST collection at 1.5 lakh crore in February 2023 is 12 percent higher than February, 2022. The direct tax collections up to March 10, 2023 reveal that corporate income tax increased by 13.6 percent while personal income tax by 20.7 percent.

Consumer Price Index (CPI) exhibits that inflation is around 6.44 percent while Consumer Food Price Index (CPFI) is 5.95 percent, both lower than the January figures suggesting a decelerating trend. Bank credit is expanding by 15.7 percent as compared with 9.5 percent in the previous year while deposits are increasing by 10.3 percent and 8.8 percent respectively.

The oil prices are moderating to USD 79 from USD 95 in January, 2023.

Therefore, given that the Indian Economy is performing well, the green shoots should be encouraged. The increase in the interest rates can lead to stifling growth which emerging countries like India cannot afford. Indian economy has the capacity to grow above 9 percent per annum but because of the global recessionary trend the best growth projections are restricting to 6.1 percent. The increase in interest rate which causes an immediate pass through to the consumers can dent the growth in initiatives. Illustratively a 25 basis point hike in the housing loan can lead to increase of EMI or lead to restructuring of the loan. In view of the fact that housing is connected with nearly 275 industries with forward-backward linkages, slowing down of the housing sector can impact industry. Similarly, the loan products for automobiles/electronics can have a negative impact on growth. As the Fed Reserve and other important central banks have moderated the increase in the policy rates considering its impact on the financial sector, the RBI needs to consider the impact on the economy and employment.

Hence, I recommend a pause to hike in interest rates.

3) Shri Indraneel Sen Gupta, Head of India Research, CLSA

We call for a 25 bps hike by the RBI MPC on April 6 and 100bp cut from October. Our hike is driven by

  1. The Fed dot plot's 5.25percent terminal rate and
  2. Continuing high inflation above the RBI's 2-6% mandate.

4) Shri Abheek Barua, Chief Economist and Executive Vice President, HDFC Bank

I recommend a 25 bps hike in the Repo and a stance of withdrawal of accommodation. This could be the end of the hikes followed by a pause in which conditions in the domestic and global economy is assessed. Also I expect some guidance on liquidity situation especially with the runoff in Long Term Repo Operations and Targeted Long Term Repo Operations.

5) Ms. Upasna Bhardwaj, Chief Economist, Kotak Mahindra Bank

The past two inflation readings have turned out to be higher than RBI’s upper threshold level of 6 percent and hence will warrant a nearly 50 bps upward revision to RBI’s 4QFY23 inflation estimates. Despite the banking crisis in the US and Europe, the respective Central Bank’s have delivered the rate hikes in sync with their earlier forward guidance. The February MPC too had given a very hawkish guidance and with elevated inflation we expect them to deliver the final 25 bps of rate hike followed by an extended pause. We expect the impact of past rate hikes, global slowdown and fading buffers from the pandemic induced stimuli to gradually weigh on the domestic growth. We expect FY2024 GDP growth to slow down to 5.6 percent compared to 6.8 percent in FY2023. While inflation is expected to moderate but will remain elevated near 5.5 percent in FY2024 which should hold back the MPC from resorting to any rate cuts in the foreseeable future. However, we foresee a shift in the stance from ‘withdrawal of accommodation’ to ‘neutral’ by the June policy given that real policy rates are now drifting to above 1 percent. The shift in stance will provide the room for the RBI to begin easing the tightening liquidity and credit conditions through tools like CRR cut and OMO purchase from the mid-FY2024 onwards.

6) Shri Siddhartha Sanyal, Chief Economist & Head- Research, Bandhan Bank

I tend to agree with large part of the analysis and insights flagged by my esteemed co-panellists, though my recommendation as regards the repo rate is bit different.

I expect the MPC to stay on hold in April.

Last time, when we discussed here before the February MPC, an overwhelmingly strong consensus was in favour of a hike in the repo rate in February, but no hike thereafter. A very similar consensus seems to be firmly in place ahead of the April MPC meeting as well.

However, the current macro backdrop is a more complex one that perhaps warrants a more nuanced response from the central bank. Rate sensitivity of India’s retail inflation is often just moderate and rate hikes are not costless.

While the headline CPI inflation had been above the 6 percent mark in the last two monthly prints, most forecasters, including the RBI, expect the same to soften materially during the coming months to low- to mid-5 percent levels for larger part of the new financial year. So, India’s real policy rate is set to hover around 100 basis points in 3-6 months, while maintaining a policy rate differential of about 150 basis points with the US.

While core inflation had been elevated, some of the other important indicators of price situation, such as the wholesale price inflation (WPI) had been low and should not be completely ignored. A narrower trade balance and range-bound INR should offer the RBI better comfort.

In the current EBLR regime of immediate and fuller pass through of repo rate hikes to lending rates, one expects the central bank to go slower after 250 basis point of rate hike during the year. A case in point in this context is the recent developments in the home loan market. Home loans taken at say 7 percent one year back will go to close to 10 percent in case of another hike. In recent months, for an overwhelmingly large number of home-buyers, either the burden of loan EMI or the tenor of home loans has gone up significantly causing material pressure for all concerned.

In my opinion, we've already done quite a lot with repo rate hikes, and it's common in most countries to have a significantly long pause after this round of hikes. This pause could be even longer in the case of India, as compared to some Western economies. So, we should take rates to a level where we can actually be comfortable to keep it there for a significantly long period of time, rather than thinking about a response where we are hiking it very aggressively at this moment and building up pressure on ourselves towards cutting the rates in few months.

Detailed Views by Guest Panelists – Specialists from Market and Members from ASSOCHAM:

1) Shri S. C. Aggarwal, Senior Member, ASSOCHAM & CMD, SMC Group

There are challenges this time, as the Fed has recommended a 25 basis point increase. A survey of 55 economists shows that 34 has suggested a 25 basis point increase. I expect an increase of 25 basis points due to inflation being over 6 percent in January and February, with core inflation remaining sticky around 6 percent. Inflation during 2022 also remained above the upper limit of 6 percent. This quarter we expected to have inflation around 5.7 percent, but it's currently over 6 percent. The pressure to increase is also present because other banks, such as the Bank of England and Europe, have a hawkish stance and are increasing rates.

2) Shri Arjun G. Nagarajan, Chief Economist, Sundaram Mutual

We expect the RBI to stay on hold in its April policy at 6.5 percent on the Repo. Repo is likely to stay at this level all through FY24 with no rate cuts expected. RBI's rate hikes all along has been tagging the Fed to support its rupee; even though its narrative has a strong focus on inflation.

The RBI has delivered 50 percent of the Fed's rate hikes and at 6.5 percent, the Repo already prices in the Fed's March 23 rate hike of 25bps. Base case assumption for the US is that of no-recession and therefore expect Fed rates to stay on hold for most part of 2023. The RBI and Fed policy rate differential that is currently at a 13Y low, therefore is likely to continue for most of this year.

RBI's focus will be on domestic growth. Given that the cumulative 250 bps of rate hikes of the RBI has still not had an impact on economic activity, the last thing on the RBI's mind would be to raise rates further and add to the pressure on growth.

The drop in crude prices over the last few months have led to an appreciable drop in India's trade deficit. A fall in coal, chemical and precious metal imports have also helped. Further, a continued surge in services exports have brought down India’s current account deficit expectations, easing easing pressure on the rupee and giving more breathing room to the RBI on rates.

3) Shri Sadaf Sayeed, CEO, Muthoot Microfin Ltd.

I would like to present the perspective of a microfinance lender that caters to households at the bottom of the pyramid. Although a rate hike does affect them and their household budget, I believe that inflation has a greater impact. In particular, rural households with an income of 25,000 rupees per month are significantly affected by inflation, which compromises their essential needs and can harm their nutrition, health, and productivity.

As a sector that caters to the bottom of the pyramid, we anticipate that the RBI will take measures to address inflation. The projected growth rate for the upcoming financial year falls between 5.5% and 6%, while the current year's growth rate is approximately 6.9%. It is expected that India will maintain its pace of economic growth at a favorable level.

Given the current circumstances, it is more crucial to raise interest rates by 25 basis points to counteract inflation than to consider the impact of the hike on borrowing or loan installments for households.