Amid signals that further aggressive interest rate hikes are unlikely, RBI Governor Raghuram Rajan may keep interest rates unchanged in the April 1 monetary policy review as the RBI aims to lower inflation “over time and not abruptly”.
“Of course, if we do raise policy rates substantially, banks will also have to raise rates to match us. While this may lead to a collapse in demand and bring inflation down quickly, it will cause significant damage to the economy — remember the severe recession Volcker’s Fed brought about and the savings and loan crisis that followed?” said Rajan at the FIMMDA-PDAI Annual Conference 2014.
He further added that a developing country is not in the same resilient position as the US. Rather than administer shock therapy to a weak economy, the RBI prefers to dis-inflate over time rather than abruptly, while being prepared to do what is necessary if the economy deviates from the projected inflation path.
According to Radhika Rao, Economist, DBS Bank, “The remarks from Governor Rajan should put fears to rest. While inflation-fighting still remains the main policy tenet, the Governor stressed that the aim was to lower inflation ‘over time rather than abruptly’. This signals that aggressive rate hikes are unlikely even if the core inflation print proves stubbornly high in the short-term. WPI (wholesale price index) and CPI (consumer price index) inflation have corrected sharply since December 13 on falling vegetable prices, but core CPI inflation has proved sticky around 8 per cent.”
The RBI chief also said, “We believe the best way we can foster sustainable growth in the current situation, other than through developing the financial sector, is through monetary stability — by bringing down inflation over a reasonable period of time.”
Going with the Urjit Patel committee recommendations on the monetary policy targeting CPI inflation, the RBI intends to bring CPI inflation down to 8 per cent by January 2015 and 6 per cent by January 2016.
Rao said apart from price stability, the need to maintain growth and financial stability also require attention.
“A strict price targeting regimen will be difficult to follow for a developing economy like India, but a fine-tuned version that is better suited to the economy’s peculiarities might be more acceptable in the immediate term. In light of these considerations, the central bank is likely to leave rates on hold at the April meeting,” Rao said.
With the strong harvest continuing to tame food inflation and stabilisation in the currency providing further respite to inflationary expectations, focus will be on the lagged impact of the cumulative 75 bps (basis points) hikes on inflationary expectations.
The RBI has raised interest rates three times by 25 bps each since September.