Mumbai, February 8 (ANI): Reserve Bank of India (RBI) Governor Shaktikanta Das addresses a press conference on monetary policy in Mumbai on Thursday. (ANI Photo) | Photo credit: ANI
The Reserve Bank of India (RBI) has stuck to its playbook and maintained the status quo on key interest rates and retained its stance of withdrawing accommodation, which is consistent with its stated vision of maintaining a strong focus on aligning inflation with the target. (4%) on a durable basis, while balancing economic growth and financial stability. The Governor again emphasized this sufficiently when he said that only a stable and low inflation of 4% will provide the necessary foundation for long-term and sustainable economic growth.
The Monetary Policy Committee (MPC) kept its stance and policy rates unchanged, aligning with the government’s stated objective of curbing inflation. A similar idea was expressed by the Chairman of the United States Federal Reserve, Jerome Powell, at his recent meeting, at a time when the market was expecting a rate cut.
Headline inflation, after moderating to 4.9% in October, rose to 5.7% in December 2023. This was mainly due to food inflation, mainly vegetables. The RBI has reiterated that its stance on withdrawing accommodation must be seen in the context of incomplete transmission and inflation that has been above the 4% target.
The weakening of core inflation (CPI inflation excluding food and fuel) continued in both goods and services, reflecting the cumulative impact of monetary policy actions, as well as a significant weakening of commodity prices. However, uncertainties over food prices continue to affect the trajectory of headline inflation.
Amid a globally mixed economic outlook, certain factors suggest a possible soft landing scenario. Inflation is inching closer to the 4% target, and both advanced and emerging market economies are showing more resilient growth than initially anticipated.
Strong domestic demand
Domestic economic activity remains strong, with real GDP growth of 7.3% for 2023-24, making it the third consecutive year of growth above 7%. Industrial activity is gaining strength thanks to the improving performance of the manufacturing sector. The investment cycle is gaining momentum, supported by continued government capital spending, rising capacity utilization, increased resource flow to the commercial sector and policy support from initiatives such as the production-linked incentive scheme ( PLI). In this context, the Governor has projected an expected GDP growth of 7% by 2024-25.
When we look at some of the early corporate profits in the manufacturing sector, there appears to be growth fueled by higher profit margins. The Purchasing Managers’ Index (PMI) for the manufacturing sector indicates expansion, accompanied by a strengthening of the future activity index that indicates the same. Improving employment conditions and reducing inflation, along with a resurgence in agricultural production, are expected to boost household consumption on the demand side. Rural demand continues on an upward trajectory. Urban consumption remains strong thanks to improving income levels.
The services sector is expected to remain resilient, supported by strong domestic demand and favorable global prospects. The January (2024) services PMI recorded a notable increase, indicating strong and sustained expansion. Additionally, strong demand for residential housing, combined with increased government capital spending, is set to drive growth in the construction sector.
While system-level liquidity turned into deficit as of September 23 (after a long gap of 4.5 years), potential liquidity in the system (adjusted for government cash balances) is still in surplus. Furthermore, the rebound in public spending in recent weeks has also led to some increase in liquidity at the system level. Similarly, while long-term rates have remained relatively stable reflecting better anchoring of inflation expectations, monetary transmission remains incomplete in the credit market. Indeed, the Governor said that they believe that “the risks are evenly balanced” and that the last leg of disinflation is the most challenging. And, therefore, his political stance must be seen in that context.
When it comes to financial stability, the RBI has clearly explained that good governance, strong risk management, a strong compliance culture and protection of customer interests are of utmost importance for the security and stability of the financial system and of individual institutions. This indicates that apart from healthy balance sheets of banks and financial institutions, the RBI gives top priorities to compliance and risk management.
The continued rise in food prices poses a threat to the current disinflationary trend, which could lead to a destabilization of inflation expectations and widespread price pressures. These risks are compounded by emerging geopolitical tensions and supply chain disruptions. In light of these lingering uncertainties, monetary policy is vigilant to guide us effectively through the final stages of disinflation. After all, maintaining a stable and low inflation of 4% is essential to fostering sustainable economic growth.
(Manish Kothari is President and Head of Commercial Banking, Kotak Mahindra Bank)