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Sunday, July 25, 2021

Being hemmed in

Even as growth concerns remain, price pressures limit RBI’s options. It must assess when to pivot to policy normalisation

By: Editorial |
Updated: June 17, 2021 8:07:48 am
At the wholesale level, too, prices continue to edge upwards.

Recent inflation data released by the National Statistical Office is likely to restrict the Reserve Bank of India’s room for manoeuvre as it navigates this difficult period. Retail inflation, as measured by the consumer price index, rose to a six-month high of 6.3 per cent in May, breaching the upper threshold of the central bank’s inflation targeting regime. The increase in prices is more broad-based than expected. Retail food inflation rose to 5.01 per cent in May, up from 1.96 per cent the month before, while core inflation, which excludes volatile food and fuel prices, rose to 6.6 per cent — the highest in seven years. At the wholesale level, too, prices continue to edge upwards. While growth considerations continue to dominate, the central bank needs to be cognisant of the risks of higher inflation as it calibrates its policy response, and assesses when to embark on the road to policy normalisation.

A possible explanation for the higher than anticipated rise in retail inflation stems from supply-side disruptions caused by the imposition of restrictions on economic activities by states to deal with the spread of the Covid-19 pandemic. This would imply that the current spurt in inflation is likely to be transitory, and will abate as states start relaxing the restrictions imposed. However, the rise in core inflation is worrying, even as capacity utilisation rates continue to signal a lack of demand side pressures. To what extent such price pressures are durable is debatable. It is possible that retail inflation may prove to be rigid on the downside. Higher global commodity prices, along with producers being able to pass on higher input prices to consumers towards the second half of the year as household demand recovers on the back of the vaccination drive gathering momentum, may well keep retail inflation elevated.

Considering that the monetary policy committee has attached primacy to reviving growth, and rightly so, it is likely that, at least in the near term, it will look through this spike in inflation, treating it as transitory in nature until more data is available. In his remarks after the last MPC meeting, RBI governor Shaktikanta Das had dismissed talk of a withdrawal of stimulus measures arguing that it was premature to talk of policy nominalisation — implying that the MPC was in no hurry to either change the stance of monetary policy or the policy rate. If inflation remains elevated, however, it will be difficult for the committee to justify consistently looking through high inflation prints. On the other hand, with the second wave ebbing, and states beginning to lift restrictions, some indices do signal a pick-up in economic activities. More data over the next few months will provide greater clarity over the trajectory of both inflation and growth, allowing for a more considered view on when to pivot towards policy normalisation.

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