After many difficult quarters economic scenario turning more benign in terms of inflation, growth: MPC’s Varma

MPC members discuss inflation, growth & real interest rate to revive economy & contain inflation.

Containing inflation and reviving growth remained the key concerns among Monetary Policy Committee (MPC) members as evident in the minutes of the last meeting released by the Reserve Bank of India (RBI) on Friday.

“Current indications are that, after many difficult quarters, the economic environment is turning more benign in terms of both inflation and growth,” observed MPC member Jayant Varma. “The challenge for monetary policy is to facilitate this benign outcome where inflation trends down and growth remains robust,” Mr. Varma said.

“This requires two things. First, a restrictive monetary policy must be maintained long enough to glide inflation to its target of 4%. Second, as inflation drops well below the upper tolerance band, it is necessary to prevent the real interest rate from becoming excessive,” he pointed out.

Stating that at present, the projected inflation two to four quarters ahead averaged below 4.75%, he said that the prevailing money market interest rates of 6.75%, (close to the MSF rate) therefore, represented a real interest rate of more than 2%.

“Three years of high inflation do justify a strong anti-inflationary monetary policy, but in my view a real rate of 2% clearly exceeds the optimal rate,” he added.

Mr. Varma opined that in the coming months, as the MPC becomes more confident about the downward trajectory of inflation (apart from transient food price spikes), there would be a compelling case for continually calibrating the nominal policy rate so as to keep the real interest rate slightly below 1.5% (on the basis of projected inflation 3-5 quarters ahead).

Emphasising that inflation remained highly vulnerable to food price spikes, as the spurt in momentum in daily data on key food items for the month of November and early December indicated, MPC member and Deputy Governor Michael D. Patra held that this repetitive incidence was causing the accumulation of price pressures in the system and could impart persistence, reflected in a left-tailed skew in the distribution of inflation.