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RBI decision to keep rates unchanged shocking: Ashima Goyal

Also disappointed there is no signal on OMOs. RBI seems to be waiting for Budget .

ET Now|
Dec 05, 2019, 01.50 PM IST
Ashima Goyal-1200
Countercyclical monetary fiscal policy works and in a country like India, perhaps you need to do a certain minimum amount. These baby steps are not sufficient because of the large spreads, says Ashima Goyal, Member, PMEAC on the RBI monetary policy. Excerpts from an interview with Mythili Bhusnurmath of ETNOW.

The fact that the Monetary Policy Committee took this unanimous decision to keep the repo rates unchanged, was a great shocker. How do you explain it?
Yes, it is shocking. They have the space, we have seen a sharp fall in growth but they chose not to act. It must be that they want to watch inflation since inflation is likely to exceed their earlier projection but they have revised growth down to 5% and so there is a wide output gap. I think the reason is they will wait and see if inflation comes down. Also, probably, they want to see how far the fiscal deficit has been breached and what the government is going to do. They are waiting for the budget which is just around the corner.

It is true that monetary policy has reached its limit. They feel that you need to basically cool down the markets because many people would believe that markets have run way ahead of fundamentals?
That is true but you need to revive investment and aggregate demand in the economy. The real rates are still high because WPI is negative. So that is a producer price inflation. Industry is still paying really high interest rates and consumer durable demand is slow and you needed rate cuts for that.

But what is also disappointing is that there is nothing about liquidity or any sort of signals on OMOs which would help bring down the spread on G-Secs, because even if they do not want to cut now, they could have done something to improve transmission of the existing cuts. Some action, some signalling for NBFCs also is needed which would bring down corporate credit spreads.

There was a mention that liquidity is in surplus.
They have not specified that liquidity will remain in surplus as long as they are accommodative. That would help banks I think.

That is true, though they have of course, said that there is space in the future but perhaps that is because they did not want to damn the sentiment entirely. What is a little surprising is that they have listed out all the reasons why the present spike in CPI need not alarm people. Is that a little surprising and does that create more confusion?
That is probably true. They should look through this inflation hike, it is temporary, it is due to the floods and the prolonged sort of problems we have had in agriculture. But, what has probably turned the tables for them is that there is slight firming or household inflation expectations and maybe of the view that after having fought so hard to bring inflation down, to implement inflation targeting, you cannot give up easily.

There is a view and IMF is a big expounder of this that in a country like India you need tight policy for long in order to bring inflation expectations down. And household inflation expectation is still susceptible to food and perhaps because of the rise in food prices, there has been an upturn there. But research also suggests that this food inflation has a short term effect but in the long term, core inflation dominates and since core inflation is so soft and keeps falling, I do not think the uptick in household inflation expectations will last.

But they are probably worried about that because ultimately if household inflation expectations are well anchored, then you can really look through commodity price shocks like what you are seeing. In the rest of the world, whatever happens inflation just does not budge because households are so used to low inflation. Since this is the beginning of the inflation targeting, they must be worried about that.

You are possibly right but I am not so sure because the statement says the second quarter inflation target estimate is 4.7-5.1%, which is well within your 2- 6% range. It seems the MPC is saying we have done our bit, over to you government!
This is absolutely right because they have been taking this 4% too seriously. In the current situation, where growth has fallen so much below potential and there is generally soft sentiments, you need to improve aggregate demand. They should think that inflation even if there is a spike, is still within their band which is 2 to 6% and is expected to converge back down and other components of inflation. So, I do not know, I personally think this is very inappropriate.

Absolutely. I would agree with you over there though. I doubt the merits of monetary policy easing at this point but the commentary is at odds with the action. Even in the second quarter of the next fiscal growth remains subdued. MPC will have a tough job explaining and we will have to wait for the minutes.
In my view, this household inflation expectation firming will be the major factor but it is very unfortunate and it suggests that they are taking strict inflation targeting. Inflation first, no matter what is happening to growth. This is not their MOU with the government -- which is flexible inflation targeting and when inflation is within the band and growth is slowing down, they must pay attention to growth as they have space.

The other issue is that after the GST, they cut the repo at 4.75%. There was fiscal stimulus and we saw tremendous boom in growth from 6.7% to above 11%, to overheating. But the point is that countercyclical monetary fiscal policy works and in a country like India, perhaps you need to do a certain minimum amount, just these baby steps are not sufficient because of the large spreads.

You need to take a big step in a way, this 135 bps cut that they have done up till now, considering there was a 50 bps rise in the middle is not sufficient. It is nothing compared to that 4.75%, which was way too much of a stimulus. I have been arguing that at least up to 2% should have an upfront cut and then they can see the data and so on. They do not need to cut 4.75% which would mean negative interest, they are keeping real interest rates positive but recognising that the real rate has fallen, is the other factor I do not understand. They just do not come out with their view of what is the neutral real interest rate and where real interest rates are. As they are targeting aggregate demand, it is the real interest rates which affect aggregate demand, they must have a view on that.

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