dailyO
Money

Lok Sabha polls 2019: Why Modi sarkar should fear inflation

Advertisement
MG Arun
MG ArunApr 23, 2018 | 10:53

Lok Sabha polls 2019: Why Modi sarkar should fear inflation

The discussions in the financial world are no longer about the prospects of an interest rate cut by the Reserve Bank of India (RBI). It is about the likelihood of something exactly the opposite happening — a hike in rates. With the publication of the minutes of the Monetary Policy Committee (MPC), the six-member panel that makes its proposal on interest rates, last week, there is now more surety that it won’t be long before interest rates are hiked in India.

Advertisement

A close look at the minutes reveals that the MPC continued to be concerned about inflation. While five members voted in favour of holding rates, one member (Michael Patra), was of the view that rates be hiked by 25 basis points. He had taken a similar stance in the previous MPC meeting too in February.

However, this time, he found a supporting voice from Viral Acharya, RBI deputy governor, who signalled that he would likely shift toward voting for a “beginning of withdrawal of accommodation in the next MPC meeting in June.” This means he will vote for a rate hike in June, along with Patra. That still will not lead to a rate hike, since opinion will favour holding the rates at a voting score of 4-2.

But Acharya will be able to drive home a point that things are becoming a little uncertain on the inflation front. Among his concerns are the high levels of international crude oil prices and the inflation trajectory, which is likely to remain above the MPC target rate of 4.8 per cent.

Inflation will remain on the higher side, thanks to the government over-spending, including the implementation of the minimum support price (MSP) for farmers announced in the Union Budget this year. Barring these two members, the others in the MPC preferred to adopt a wait-andwatch policy, although they were confident of a better growth outlook.

Advertisement

Earlier this month, the RBI kept policy rates unchanged, maintaining the repo rate at 6 per cent, the reverse repo at 5.75 per cent, and the marginal standing facility rate at 6.25 per cent. According to a Crisil report, prepared by analysts led by its chief economist Dharmakirti Joshi, the decision to hold rates is based on uncertainty on the inflation trajectory, mainly (i) impact of MSP announcement on food prices, (ii) staggered impact of house rent allowance (HRA) revisions by state governments and possibly second round pressures of HRA revisions on overall inflation, (iii) impact of possible fiscal slippages, and (iv) uncertainty on the distribution of monsoon. All this will need monitoring. Therefore, any rate action needs to be taken with caution and after weighing the data.

modi5-copy_042318104246.jpg

Inflation is the biggest concern for governments everywhere in the world as it impacts the general public in ways many other policies do not. “Inflation affects everybody immediately,” says Kaushik Basu, former chief economist of the World Bank, in his book An Economist in the Real World, "inflation has an immediate, palpable effect."

This, in turn, means the electorate’s attitude toward the government depends critically on the level of inflation. Independent India’s worst inflationary episode was from November 1973 to December 1974, when inflation never dropped below 20 per cent and was above 30 per cent for four consecutive months starting June 1974. The highest inflation occurred in September 1974, when inflation reached 33.3 per cent.

Advertisement

Starting from late 2009, India had nearly five unbroken years of inflation, ranging between 7 and 11 per cent per annum. In December 2009, it breached the 10 per cent mark. Of late, it has been around 5 per cent. The MPC has revised the inflation forecast for fiscal 2019 down to 4.7 per cent average, from 5 per cent estimated earlier. However, it continues to be wary of factors such as crude prices and higher government expenditure that can lead to higher inflation than expected.

Given all these circumstances, what is the outlook for interest rates in India? At least by the fourth quarter of the fiscal, interest rates are likely to go up, say analysts at Morgan Stanley. That can be detrimental to the green shoots of growth that are visible in the economy, but the RBI will have no other option. The government may also be content with lower inflation numbers than any spurt in GDP growth. Inflation, as argued before, can pinch consumers badly, and that will be the last thing the government would want as it faces the electorate next year.

(Courtesy of Mail Today)

Last updated: April 24, 2018 | 14:42
IN THIS STORY
Please log in
I agree with DailyO's privacy policy