Price rise is sore point
It appears that the inflation sore has begun to heal with headline CPI moderating to 7.01% in June, from a peak of 7.8% in April. The Q1 average settled at 7.3%, lower than the RBI’s estimated 7.5%, allowing the central bank to catch a breath. Analysts, however, caution that the price rise worryingly continues to be broad-based. Barring housing, all other segments saw inflation above 6%, and there seems no respite particularly for the food and beverages basket with vegetables seeing a disturbing 17.4% increase. This leaves no solace for monetary policy, and markets rightly expect a 25–50 bps rate hike next month, with more 25 bps jackings to follow during the rest of the fiscal. But the front-loaded rate hikes imply that it won’t be a lengthy tightening cycle, with RBI intent on keeping real rates neutral or higher.
Meanwhile, it was presumed that inflation in the US had peaked, but with price rise touching a 40-year-high of 9.1% in June, fears of aggressive monetary tightening by the US Federal Reserve are back with full force. But chances are, the ongoing tightening cycle may end sooner than expected if global commodity prices continue to slide. If global prices soften amid fears of a recession, the pressures caused by inflation in the Indian economy too may fade. But for now, the strengthening US dollar is weighing on INR, which touched a new low of 80 and may continue to get whacked as foreign investors go after dollars. One must also remain vigilant of supply chain disruptions amid the stop-start nature of lockdowns in GDP-giant China, which could intensify imported inflation.
Given the Indian economy’s high potential growth, accommodating supply shocks remains the most acceptable policy choice. RBI must assess the impact of monetary tightening on the growth-inflation dynamics and ensure that its actions do not impose significant costs on the economy. Central banks always start with good intentions, but it’s essential to have a judicious counter-cyclical fiscal and monetary policy mix and avoid a larger output sacrifice to contain inflation.