JAYANTH R VARMA, one of the members of the Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI), says the stance of ‘withdrawal of accommodation’ can only refer to rise in the repo rate. “When meeting after meeting ends with a resolve to raise rates, but does not actually do so, that creates a dissonance between words and deeds,” he says. Varma, Professor of Finance and Accounting at Indian Institute of Management- Ahmedabad, tells HITESH VYAS and GEORGE MATHEW that though bringing inflation below the upper tolerance band is required, there is a need for being more patient when it comes to gliding inflation to the 4 per cent target. “A more rapid pace of reduction could impose an intolerable growth sacrifice,” he says. Edited excerpts: You have said there is a disconnect between policy stance and action, which does not enhance the credibility of the MPC. Can you elaborate further on it? When the MPC talks about “withdrawal of accommodation”, it can refer only to increases in the repo rate which is within its mandate, and not something that is outside the ambit of the MPC. As such, when meeting after meeting ends with a resolve to raise rates, but does not actually do so, that creates a dissonance between words and deeds. When do you see inflation reaching the 4 per cent target on a sustainable basis? I have been saying for quite some time now that while there is great urgency for bringing inflation well below the upper tolerance band, we can be more patient when it comes to gliding inflation to the target. A more rapid pace of reduction could impose an intolerable growth sacrifice. We should be willing to accept inflation between 4 per cent and 5 per cent for several quarters as the price of avoiding a growth shock. Do you see reduction in the repo rate only after the 4 per cent inflation target is achieved? No, for two reasons. First, monetary policy acts with lags and must therefore be forward looking. What matters is that projected inflation falls close to 4 per cent on a durable basis and not that actual inflation does so. Second, if a real repo rate of 1 per cent is required to glide inflation to target, then the required nominal repo rate falls with falling inflation projections. For example, if projected inflation falls durably below 4.5 per cent, then the current repo rate of 6.5 per cent would translate into a real rate of 2 per cent which would probably be excessive. There would then be a need to cut the repo rate to maintain the real rate at a reasonable level. You mentioned that there could be some volatility in food prices which may lead to short-lived inflation spikes. In September, CPI eased to 5.02 per cent. Do you see inflation accelerating to above 6 per cent again in the coming months? There are some risks regarding prices of pulses and cereals, but it is hard to say how high the spike will be. The important point is that these spikes would be transient and would not in my view require a monetary policy response. Are there any risks to inflation and growth given the ongoing conflict in the Middle East? There is no question that the conflicts there pose risks to the world economy. What I find reassuring is that oil prices have remained range bound in the face of these conflicts. This is in my view suggestive of depressed global demand putting a lid on prices. Of course, a bigger flare up in the region that takes us back to 1973 would be a very different situation, but as of now there is ground for guarded optimism. You have said that the medium-term growth outlook has become stronger but there are several headwinds. What major challenges lie ahead for growth? There are three headwinds. First, external demand is weak due to the sluggishness in the world economy. Second, the revival in private capital expenditure is still too tentative and muted. Third, fiscal consolidation amounts to a withdrawal of the pandemic era government spending stimulus. There’s a perception that the dollar’s growing strength is a global risk. US yields have almost hit 5 per cent. What will be the impact in India? Inflation targeting central banks respond to domestic growth-inflation dynamics and not to perceived exchange rate and capital flow considerations. The RBI and the government have other tools to deal with issues related to the external account, and, therefore, they do not in my view constrain monetary policy. In any case, exchange rate issues lie outside the remit of the MPC. MPC says there are signs of a revival in investment now after more than a decade. Don’t you think this is because of public sector capex? Why is private investment yet to take off in a big way? I agree that the muted private investment is one of the headwinds to economic growth. What we seem to be encountering is a situation where economic growth would have to drag capex up along with it, rather than one where rising capex lifts economic growth. One of the MPC members (Ashima Goyal) said prudential tightening, such as raising LTV ratios or risk weights, would be preferable for raising policy rates further. What’s your view on this? I think this is not in the MPC resolution but in the statement of one member. I would prefer not to comment on matters of prudential regulation that are not within the mandate of the MPC, but I agree that the situation regarding household credit does not require an interest rate response at this stage.
