Reserve Bank of India unlikely to throw surprise rate decision this week even as inflation threat clouds darken: SBI

1 Nov
2022

Reserve Bank of India unlikely to throw surprise rate decision this week even as inflation threat clouds darken: SBI

By Staff Writer

The Reserve Bank of India-led rate-setting panel's unscheduled meeting this week is unlikely to spring a surprise with an off-cycle rate hike, even though it comes a day after the Federal Reserve's policy decision and as unseasonal rains in Asia's third largest economy intensifies inflation threats.

The meeting on November 3 is about drafting an explanation for the central bank failing to adhere to the inflation target for three straight quarters.

"The unscheduled meeting on 3 Nov’22 recently announced is only a part of the regulatory obligation (for failing to bring inflation within mandated band for three straight quarters) and we do not believe any other agenda to be announced at this meeting, against the market expectation of a slim chance of rate hike as the meeting is scheduled a day after the Fed meets on 2nd Nov’22," Soumya Kanti Ghosh, group chief economic adviser at State Bank of India, said in a research note.

The process of explaining failure

India's retail inflation surged to a five-month high of 7.4 percent in September, logging the third straight quarter where the average print stayed above the RBI's tolerance ceiling of 6 percent and it has breached the medium-term target of 4 percent for three years.

As mandated by a law, the RBI will have to explain to the government the reasons for the failure to bring it within the 2-6% mandate and the remedial measures to fix it.

Under Section 45ZN of the RBI Act, the central bank will have to set out in a report to the Central Government the reasons for failure to achieve the inflation target; remedial actions proposed to be taken by the Bank; and an estimate of the time-period within which the inflation target shall be achieved pursuant to timely implementation of proposed remedial actions.

Also, in accordance with the Regulation 7 of the RBI MPC and Monetary Policy Process Regulations, 2016, a separate meeting is required to be scheduled by the Secretary to the Committee, as part of the normal policy process to discuss and draft the report to be sent to the Government, SBI notes.

The Report must be sent to the Government within one month from the date on which the Bank failed to meet the inflation target. So, the RBI has to submit the report before November 12 as the September inflation data was released on October 12.

The inflation threat

Higher inflation has been a concern for central banks across the globe, including India, as the uncertain nature of the Russia-Ukraine war compounded supply side disruptions in the post-pandemic world that was barely going through a nascent recovery from economic shocks.

The recovery was accompanied by rising global commodity prices as pent-up demand overwhelmed supply. The outbreak of the conflict aggravated the commodity upcycle and almost obliterated the supply chains of key critical commodities such as coal, metals, edible oils, and crude oil, with the latter two being essential and major imports of India.

The nation's largest bank said today in the research note that unseasonal rains that are affecting kharif crops are now another threat to inflation. Along with grains, the prices of vegetables, milk, pulses and edible oils, which account for over a quarter of the overall CPI, are rising and likely to remain high in the coming months, SBI said.

India’s October rainfall was 44% above normal, the three months average food CPI was a whopping 10.9% as against 4.9% in the preceding 3 months. This indicates that unseasonal rains may have a large negative impact on food inflation in coming months, it added.

"In 2019, when unseasonal rains happened, average food prices more than doubled from 4.9% to 10.9%. Currently, the September food inflation is at 8.4% and a similar trend like the one seen in 2019 can put headline inflation towards 7.5% in December," SBI said. "This could put a spanner to the inflation projections of RBI and market consensus. This could also mean that the terminal repo rate could still be difficult to comprehend at this time, though consensus puts it at 6.5%."