It raised the inflation forecast for the financial year to 5.4 percent, from 5.1 percent earlier, as vegetable prices could keep the headline numbers high even though core inflation may be reasonable. A forecast of 5.2 percent in the next fiscal first quarter pushes behind the possibility of an early interest rate cut.
It introduced a short-term incremental cash reserve requirement (CRR) on deposits to suck out liquidity.
“Going by the past trends, vegetable prices may see a significant correction after a few months. The prospects of kharif crops have brightened, thanks to improvement in the progress of the monsoon,” Governor Shaktikanta Das said. “While the vegetable price shock may reverse quickly, possible El Niño weather conditions along with global food prices need to be watched closely against the backdrop of a skewed south-west monsoon so far.”
The six-member monetary policy committee voted unanimously to keep the key repo rate, the rate at which it lends to banks, unchanged at 6.5 percent and one member dissented on the monetary stance of focusing on withdrawal of accommodation.
An ET poll of 15 respondents showed that the repo rate will be unchanged and the MPC will maintain the stance of withdrawal of accommodation. The trend is expected to continue in July, with several economists predicting CPI inflation at 6.0-6.5% as against 4.81% in June.Soaring Farm Prices
India’s MPC, after a reasonably comfortable few months, suddenly faces challenges from soaring farm prices due to supply constraints and delayed monsoon that pushed back planting timelines. Prices of vegetables such as tomatoes have soared five-fold and economists expect onion prices to climb as well.
The inflation outlook is getting muddier with a rally in crude oil prices due to supply cuts and a resilient US economy. Central banks in advanced countries are not letting up on raising interest rates with the Federal Reserve and the European Central Bank set to step up rates again.
“The market was fearful about the vegetable prices, but the governor has assuaged those concerns,” said A. Prasanna, Head of Research at ICICI Securities Primary Dealership. “Inflation forecast of more than 5 percent for the first quarter next year pushes back the possibility of interest rate cut.”
Investors’ reactions were mixed with the stock markets falling, while the 10-year bond yield was steady. The Sensex fell 0.5 per cent to 65,637.09 points, and the rupee was little changed at 82.86 to the US dollar. Yield on the benchmark bond was steady at 7.17%.
Like the repo rate, all the other benchmarks, such as the reverse repo rate and the lending rate under the penal Marginal Standing Facility, also remain where they were after the first policy review in FY24.
Inflation poses a threat to price stability, but the central bank is keeping a close vigil on it.
Inflation Expectations
“The frequent incidences of recurring food price shocks pose a risk to anchoring of inflation expectations,” said Das. “The role of continued and timely supply side interventions assumes criticality in limiting the severity and duration of such shocks. It is necessary to be watchful of the emerging trends and risks to price stability. We have to stand in readiness to go beyond keeping Arjuna’s eye to deploying policy instruments.”
Prime Minister Narendra Modi’s government curbed exports of non-basmati rice and permitted import of some food articles. It has ordered the release of rice and wheat to keep a lid on their prices.
While it raised the inflation forecast, Governor Das warned against lowering the guard and the need to bring inflation to the 4 percent target and not take the 6 percent upper limit as acceptable.
The central bank, which has raised policy rates by 2.5 percentage points since May last year, believes that India could still be an outlier with high growth and financial stability. Morgan Stanley recently listed India as its top Emerging Market bet and raised the weightage for India.
“India is uniquely placed to benefit from the ongoing transformational shifts in global economy in the wake of geopolitical realignments and technological innovations,” said Das. “A large economy marching ahead with vast domestic demand, untapped resources and demographic advantages, India can become the new growth engine for the world.”
