Of cricket and monetary policy

Before a Test match, the captain inspects the pitch closely to determine the strategy. Playing on a green pitch is very different from a flat track or a dry pitch. Similarly, a dusty pitch gives the captain different ideas. The weather also plays a critical role. How a team plays on a windy day and a sunny day is not the same.

Extending this analogy, what is the pitch for the latest policy? And, how’s the weather?

The equity markets are hovering around historic highs; ditto for gold prices. Bond yields have come down substantially from their peak. (Bond prices and yields move in opposite directions.) The 10-year bond yield is around 7 per cent, down from its peak of 7.62 per cent. When a monetary policy match is played on such a pitch, the outcome is quite predictable.

There are a few interesting highlights of the weather. This is the penultimate meeting of the current MPC. It will have its last meeting in August before a new MPC takes over for the October policy meeting.

This is the first time the RBI policy meeting is taking place a day after the general election results are out. Remember what Prime Minister Narendra Modi said in early April at the 90th commemoration function of the RBI? “I am busy with elections for the next 100 days. You have enough time on your hands to think. After taking oath, a lot of work will come your way.”

The PM also mentioned that the RBI’s inflation targeting framework has helped keep price pressures moderate. The central bank should look at “unique tools” to balance inflation and growth. “In the next decade, the RBI should give growth the highest priority, while focusing on trust and stability,” he said.

There was no surprise in the financial year 2024-25’s (FY25’s) first monetary policy in April. The MPC decided to keep the policy repo rate unchanged at 6.5 per cent for the eighth straight meeting. There was no change in the policy stance either. It remained “withdrawal of accommodation.” Five of the six members of the Indian central bank’s rate-setting body voted for the status quo on both the policy rate and the stance.

There was also no change in the RBI’s projection of growth and inflation in FY25 from its February estimates. The real GDP growth for the current financial year was projected at 7 per cent, and the CPI (consumer price index) inflation at 4.5 per cent. The risks for both growth and inflation projections were “evenly balanced,” the RBI had said in February.

What has changed since the last policy?

The talks of significant rate cuts globally, in tandem with the economic slowdown, are off the table now.

The European Central Bank (ECB), which kept the interest rate on the main refinancing operations and the interest rates on the marginal lending facility and the deposit facility unchanged in April at 4.50 per cent, 4.75 per cent, and 4 per cent, respectively, is most likely going for a rate cut on June 6, despite the rise in inflation in May. But the markets do not expect a series of rate cuts in the months ahead; instead, they have dialled back their expectations to bet on just one more cut this year. At the start of the year, the expectations were for as many as six cuts.

The US Federal Reserve in May kept the federal funds rate unchanged at 5.25-5.5 per cent, its 23-year high, for the sixth consecutive time. Will it cut the rate at the next meeting? No. The fight against sticky inflation will continue for now.

In May, the Bank of England too held its key rate unchanged at 5.25 per cent for the sixth time in a row. The BoE governor is “optimistic that things are moving in the right direction” but needs to “see more evidence” of falling inflation before cutting the base rate.

Essentially, rate cuts will happen, but the markets are no longer pricing in a series of rate cuts as they did at the beginning of the year. Up to one-year yield curves globally, the equivalent of overnight index swaps in India, suggest so. Simply put, the rate easing cycle is expected to be shallower than earlier expected.

The other significant development is the rise in manufacturing input prices. Commodity prices, including oil, have been rising. That will impact the wholesale price index first and then seep into CPI inflation.

The CPI inflation moderated marginally to 4.8 per cent in April 2024 from 4.9 per cent in March. The non-food, non-oil core inflation has been declining steadily over the past 11 months to 3.2 per cent in April from 3.3 per cent in March, the lowest in the current CPI (2012=100) series, but food inflation edged up to 7.9 per cent in April from 7.7 per cent in March.

The CPI inflation could drop below 4 per cent in the second quarter of the current financial year but then bounce back to cross 5 per cent. In other words, the inflation genie is not bottled yet, something Das wants to achieve before considering a rate cut. Food price risks remain, and much will depend on the trajectory of the monsoon.

The April policy statement said that strong growth momentum was giving the policy space to “unwaveringly focus on price stability”. The momentum continues. India’s economy grew 7.8 per cent in the March quarter, pushing up the annual growth rate to 8.2 per cent. Growth in the January-March period is lower than the 8.6 per cent expansion in the December quarter but higher than what the market had expected.

The June policy will be a status quo policy in every way. There will be no change in the rate or the stance. The earliest the RBI may change the stance could be in August (to neutral) when the current MPC holds its last meeting.

When will we see a rate cut? Not too soon. For the time being, the RBI will watch out for the monsoon and the Union Budget for FY25. Only if growth falters will we see a rate cut sooner rather than later, but this is highly unlikely. Another driving factor could be a US Federal Reserve rate cut. The earliest a rate cut in India can happen is in October if the US Fed cuts the rate in September. But, as things stand, no one will be surprised if the RBI delays it to December, or even February 2025.

X: @TamalBandyo