Prices soar, rate cut hopes plunge

Retail inflation surged to a 15-month high of 4.9 per cent in November.

Retail inflation surged to a 15-month high of 4.9 per cent in November. Until recently, rate cut hopes were high, but now, it’s no dice. With soaring consumer prices, RBI may instead lurch between halt and hike, should inflation firm up. Worryingly, the pick-up in inflation index was broad-based, driven by rising food and fuel prices, plus the HRA impact.

Adding to the disappointment, weakness resurfaced in IIP. These are reasons enough for RBI to take a long pause, shutting the door on the rate-easing cycle that started in January 2015. But monetary policy is based on future inflation outlook, not the previous month’s data. So unexpected rate cuts remain a possibility.

It’s also true that the central bank is behind the curve on inflation projections. Precisely to address this, India adopted the inflation-targeting regime, creating a monetary policy committee last year, hoping nothing will go wrong. But it didn’t pan out that way. Concerns seldom cease on RBI’s ‘error-prone inflation forecast model,’ with even members of the prime minister’s Economic Advisory Council questioning the forecasting framework and the rationale for not cutting policy rates.

While concerns are just, mainstream commentators seem to be tin-eared, overlooking three key points. One, inflation tends to be sticky around this time, considering the seasonal moderations, though it’s hard to tell if it’s a temporary blip. Two, MPC’s 4 per cent inflation target is for the full fiscal and to compare the monthly inflation rate with the annual target is incorrect.

If you sense-check data, the average inflation rate for nine months stands at 3 per cent, well below the annual target. The average inflation rate for the first two quarters too was within the comfortable zone of 2.23 and 3 per cent respectively. Lastly, the 4 per cent inflation mandate comes with a band of 2 per cent plus or minus. It means, even if prices remain sticky in the next four months, RBI’s annual target—the first year of inflation targeting regime—is unlikely to be out-of-whack.

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The New Indian Express
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