War against inflation not yet won: MPC's Jayanth Varma

The war against inflation has not yet been won, and it would be premature to declare an end to this tightening cycle, according to Reserve Bank of India's (RBI) monetary policy committee (MPC) member Jayanth Varma.

In the minutes of MPC's April meeting, Varma said two inflationary risks have come to the fore recently. The first risk emanates from the announcement of an output cut by OPEC+. If crude were to creep towards the triple-digit mark, there might be a need for a monetary response, Varma said.

"The second risk relates to the monsoon. It is only around mid April that scientists are able to provide monsoon forecasts with some degree of confidence, and the forecast accuracy improves towards the end of May. In this meeting, therefore, the MPC has no choice but to operate under the default assumption of a normal monsoon. However, in recent weeks, there has been increasing concern about some unfavourable oceanographic patterns that could impact the monsoon this year. A deficient monsoon would likely create inflationary pressures that would need to be counteracted with monetary policy measures," said Varma, who is also a professor at the Indian Institute of Management, Ahmedabad.

RBI's MPC kept the repo rate unchanged at 6.5% in its first policy statement of the financial year 2023-24. The rate-setting panel also decided to remain focused on 'withdrawal of accommodation' to ensure that inflation progressively aligns with the target, while supporting growth.

Varma, who expressed reservations on MPC's stance of 'withdrawal of accommodation', said he fails to comprehend its meaning. "My colleagues in the MPC assure me that the language is crystal clear to market participants and others. It may well be that I am the only person who finds it hard to understand. But I am unable to reconcile the language of the stance with the simple fact that no further 'withdrawal of accommodation' remains to be done since the repo rate has already been raised to the 6.50% level prevailing at the beginning of the previous easing cycle in February 2019. It is of course possible to undertake further tightening, but that would not constitute a 'withdrawal of accommodation' by any stretch of the imagination," he said.

"One interpretation that has been offered is that the real interest rate measured using the most recent published inflation rate needs to rise further. This is doubtless true, but monetary policy should not be conducted by looking at the rear view mirror. The real interest rate must be measured against the projected inflation rate 3-4 quarters ahead, and, as things stand right now, there is very little ground to argue for a further rise in the correctly measured real interest rate," he added.

On the growth front, Varma cautioned that early warning signs of a possible slowdown are visible to a greater extent. "In the current situation of high inflation, monetary policy does not have the luxury of responding to these growth headwinds. In fact, it is almost axiomatic that monetary action can cool inflation only by suppressing demand. However, policymakers must be vigilant against overshooting the terminal policy rate, and thereby slowing the economy to a greater extent than what is needed to glide inflation to the target," he said.