RBI begins MPC meeting with new ‘dovish’ members, all eyes on growth, inflation forecasts

The tilt of the new members is seen as dovish, but market participants don’t see further interest rate cuts. The three-day MPC meeting is under way.

Representational Image of Indian banks | Vivek Prakash | Bloomberg

Mumbai: Jayanth Varma, one of three new external members of the Reserve Bank of India (RBI)’s monetary policy committee (MPC), once described the interest rate hikes in mid-2018 as a “mistake which took too long to correct”.

Another newly appointed member, Ashima Goyal, who was earlier a part of the RBI’s technical advisory committee of monetary policy, a precursor to the MPC, expressed “shock” when the RBI decided to hold interest rates in December 2019 as she said the central bank should look through the spike in inflation.

Varma and Goyal, along with Shashanka Bhide, have now joined the MPC as external members after the government announced their names late Monday evening.

The MPC began its three-day deliberations Wednesday. The decision of the policy will be announced Friday, with all eyes set to be on growth and inflation forecasts.

Who are the new members?

An expert in finance, Verma is currently a professor at the prestigious Indian Institute of Management (IIM), Ahmedabad, where he teaches courses in capital markets, fixed income, alternative investments, risk management and corporate finance. He has served as the IIM-Ahmedabad Dean for three years.

One of the areas of Varma’s interest is in monetary transmission — an issue that continues to haunt the central bank. Indian banks are seen reluctant when it comes to lowering lending rates in response to interest rate reduction by the central bank.

For example, RBI has lowered the repo rate 115 bps (since March 2020) but the weighted average lending rates on fresh rupee loans of scheduled commercial banks have fallen only by 47 bps during the same period.

In November 2019, Varma observed “stunning lack of monetary transmission” and asked whether India needs unconventional monetary policy to address the issue of lack of monetary transmission.

Varma was earlier a member of the Raghuram Rajan Committee on Financial Sector Reforms and of the Financial Sector Legislative Reforms Commission, and a full-time member of the Securities and Exchange Board of India (SEBI) for a year. Prior to that, he was a part-time SEBI member for three years.

Ashima Goyal, a professor at Mumbai’s Indira Gandhi Institute of Development Research and a member of the Prime Minister’s Economic Advisory Council (PMEAC), has research interests in open economy macroeconomics, international finance, financial markets and regulation, institutions and development.

She has written extensively on the Indian economy and her views are well known in academia and among market participants.

“Her view on inflation has been to focus on core inflation rather than overly fret about household expectations (which are more susceptible to food prices), and higher commodity prices. She has also criticised the previous MPC in ‘taking this 4% too seriously’, and not spelling out their view on the “neutral real interest rate”, given its impact on aggregate demand,” Nomura said in a report to its clients Tuesday.

The mandate of the MPC, as was notified by the government, was to target 4 per cent consumer price index-based inflation for the period from 5 August 2016 to 31 March 2021 with the upper tolerance limit of 6 per cent and the lower tolerance limit of 2 per cent.

“Ashima Goyal specialises in institutional and open economy macroeconomics and has already been active in government policy space. She has been vocal on her discomfort about the tighter-than-needed stance of the RBI,” said Madhavi Arora, economist at Edelweiss Securities.

Shashanka Bhide is a senior advisor at Delhi’s National Council of Applied Economic Research and his research interests includes macroeconomic modelling, decentralisation issues and poverty reduction. He has a PhD in agricultural economics from Iowa State University in the US and MSc from Indian Agricultural Research Institute in New Delhi.

“In contrast to the other two newly appointed MPC members, his views are not well known, especially on monetary policy. We would place him in the neutral camp for now,” Nomura said.

“The new MPC comprises an interesting mix of new members which could bring a wider perspective to the policy arena. I think in the upcoming the new members will likely ensure a continuity of policy tone of the previous MPC while over the course of more policies, their thought process and biases could be assessed better,” Arora said.

Dovish tilt

The tilt of the newly appointed members is seen as dovish and supportive of growth by the market participants.

“In our view, the new choice of members lends a slightly more dovish bias to the MPC compared to the past external members,” Deutsche Bank economist Kaushik Das said in a report Tuesday.

“While the mandate of the external MPC members is only limited to deciding on the repo rate movement and nothing beyond that, the external MPC members can nevertheless exert their influence on the central bank to push for more proactive support through OMO (open market operation) purchases, in the probable absence of room for rate cuts, in our view,” Das said.

However, a further interest rate reduction is ruled out by market participants at this point in time.

“On rate action front, we note despite modest reduction in recent inflation prints, MPC’s desire for statistical reflection of durably low inflation will imply October cut will be ruled out,” Arora said, adding that inflation is expected to hover around 6.5 per cent in the near term.

Eyes on forecasts

What market participants will keenly await is the central bank’s growth and inflation projection for the current financial year. The RBI has refrained from projecting the numbers in the last six months.

“The market wants guidance on growth and also they want guidance on inflation,” said Abheek Barua, chief economist, HDFC Bank.

Economists and rating agencies have revised growth forecasts for the current financial year, after GDP for the first quarter contracted by 23.9 per cent.

“The market wants some discussion about how the government borrowing programme will be handled. Also, some assessment of the fiscal situation, whether the Rs 4.34 lakh crore number is justified on the basis of the fiscal situation or whether there will be an overshoot,” Barua said.

Last week, the finance ministry said the government will borrow Rs 4.34 lakh crore in the second half of the current fiscal to meet its expenditure requirement while sticking to Rs 12 lakh crore borrowing target for the current fiscal.