Edited excerpts:
Is there a need for liquidity management to also be brought under the purview of the MPC? As the experience of the past six months shows us, liquidity conditions have been the driver of funding costs rather than the benchmark policy rate that the MPC votes on.
The US Fed Committee gives guidance on liquidity, and this is the case in many inflation targeting countries. India can also move in that direction as markets mature and deepen so shocks have less of an impact.
You have noted in the latest MPC minutes that the FY25 inflation projection of 4.5% gives room to cut rates. What would a potential timeline be for any reduction in rates?
While the FY25 inflation projection is 4.5% it is expected to rise towards the end of the year, in the majority of forecasts. Since we have had a series of supply shocks and geopolitical risks continue but growth remains quite robust, we have the space to watch for future shocks and see if they disrupt the ongoing trend disinflation.You mention that steps are required to bring the weighted average call rate (WACR) closer to the repo rate. Does the banking system require a fresh approach to durable liquidity calculations, given the demands of 24/7 banking?Steps to bring down the WACR to the repo rate would bring down short-term rates. Would this be acceptable to the MPC, given its current stance of withdrawing accommodation?
“Withdrawal” is defined with respect to the repo rate. In inflation targeting the signal and impact comes from the rate not from liquidity. As long as the repo rate is high enough to deter inflation and short rates are kept at this, the stance is disinflationary even if liquidity is being injected. Indeed short-term liquidity has to adjust endogenously to maintain short rates at the repo in an inflation targeting system. In the MPC’s view 6.5% is adequately disinflationary in present circumstances.
You mentioned the crucial role played by adequate liquidity in preventing balance sheet stress while referencing the Fed’s actions during the banking crisis in the US. Are you seeing signs of liquidity-related stress building up in the Indian financial system?
There is no balance sheet stress in the Indian financial system since it is well capitalized and regulated. But there are inefficiencies, spreads are higher than necessary and access is limited. Adequate liquidity is one of the tools to improve these aspects.
You have pointed out that some high-frequency growth indicators softened in November and December. Do you see a need for the MPC to lend a helping hand for growth numbers to print in line with the 7% projection for FY25?
Some of these high-frequency indicators have reversed in January. A couple of months are not enough to reach a firm conclusion. Credit growth remains robust and is outpacing the growth of deposits at current rates, implying the real repo rate is still near the equilibrium level that restrains inflation while allowing growth to sustain.
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