Central bank signals end of monetary easing with calibrated tightening stance
After three years and eight months, the Reserve Bank of India’s Monetary Policy Committee (MPC) has decided to increase the repo rate by 25 basis points to 5.50 per cent. The Central bank has sent an unambiguous message to financial markets by adopting “calibrated tightening” as its policy stance, which indicates the era of monetary easing is over, at least for the foreseeable future.
While the rate hike was expected, RBI governor Sanjay Malhotra made it clear that future policy action could only be a rate hike or a pause, depending on the evolving growth-inflation balance. The calibrated tightening indicates the Central bank’s intention to hike interest rates as and when it is required. The fact that there is no talk of easing reflects the Central bank’s assessment of the global and domestic economic situation.
Inflation is the prime contributor to the policy change. Since last year, the inflationary environment has deteriorated substantially. Consumer price inflation rose to 4.8 per cent in August from 4.5 per cent in July, driven largely by food and fuel. Core inflation, too, increased to 4.2 per cent after remaining at 3.9 per cent for three consecutive months.
The more worrying factor for the RBI is evidence that price pressures are spreading. The continued hostility in West Asia and Ukraine has pushed up global crude oil prices, while the El Nino left vast tracks of India receiving deficient rainfall. As a result, the RBI now expects inflation to average nearly 5.8 per cent over the next three quarters — which is the upper border of its band of acceptable inflation of plus or minus four per cent. The inflation is also expected to be at 5.2 per cent for 2026-27.
Though much of the pressure is coming from global factors, which are beyond the control of monetary policy, higher interest rates will allow the country to maintain the yield differential between the US dollar and the rupee, which plays a crucial role in money markets.
The fact that India is entering monetary tightening when its economic fundamentals are strong should give policymakers some comfort. The country’s gross domestic product (GDP) expanded by 7.8 per cent in the first quarter and the RBI has raised its full-year growth projection by 40 basis points to 7.1 per cent. Private consumption remains resilient, credit growth is robust and services continue to expand.
Though higher interest rates will hurt borrowers and could eventually moderate consumption and investment, the RBI had no option as the greater danger lay in allowing an inflation shock to become entrenched and being forced into much sharper tightening later.
The government — both at the Centre and in states — should promote policies that reduce India’s dependence on foreign countries, which the RBI or monetary policy cannot fix. The ruling parties should take along Opposition parties and civil society to make a national movement to truly free India from continued foreign dependence. People should be encouraged to join the movement for India’s economic independence.
