RBI Policy Review

The start of 2023 was looking good with improving supply conditions, a strong economy, optimistic financial markets, and central banks guiding their economies towards a soft landing. However, things have taken a dramatic turn in just a few weeks in March. The global economy is now facing turbulence due to banking sector turmoil in some advanced economies, with bank failures and contagion risk causing financial stability issues. Despite inflation moderating in recent months, central banks are continuing to tighten monetary policy, albeit at a slower pace. Inflation is proving to be stubborn and its descent to the target is taking a long time. As former US Federal Reserve Chairman Alan Greenspan once said, “Uncertainty is the defining characteristic of the monetary policy landscape.”

MPC’s rationale for its decisions on the policy rate and the stance– Recent high frequency indicators suggest some improvement in global economic activity, but there are additional downside risks from financial stability concerns. Headline inflation remains above the targets of central banks, despite moderating. This has led to volatility in global financial markets, with bond yields and equity markets experiencing sizeable movements, and the US dollar losing gains from September 2022. However, the banking and non-banking financial service sectors in India remain healthy, and economic activity is resilient with real GDP growth expected to be 7.0% in 2022-23. Consumer price inflation has increased since December 2022, driven by price pressures in cereals, milk, and fruits, while core inflation remains elevated. Looking ahead, headline inflation is projected to moderate in 2023-24. To summarize, the policy repo rate has been increased by a cumulative 250 bps in the last 11 months, with the introduction of the Standing Deposit Facility (SDF) at a rate 40 bps higher than the fixed rate reverse repo. This has led to an effective rate hike of 290 bps since April last year. The overnight weighted average call money rate (WACR), the operating target of monetary policy, has gone up from a daily average of 3.32% in March 2022 to 6.52% in March 2023.

Decisions and Deliberations of the Monetary Policy Committee (MPC):

• The policy repo rate will remain at 6.50%, the standing deposit facility (SDF) rate will stay at 6.25%, the marginal standing facility (MSF) rate and the Bank Rate will remain at 6.75%, Repo Rate saw an increase of 250 bps (It was 4% In April & it’s 6.5% now).

• 5 out of 6 members of the MPC decided to focus on withdrawing accommodation to help align inflation with the target while still supporting growth.

Assessment of Growth:

• Real GDP in India expected to have grown by 7.0% in 2022-23, Rabi foodgrains production estimated to have increased by 6.2% in 2022-23.

• PMI manufacturing remained robust at 56.4 in March, with expansion for the 21st consecutive month due to favourable domestic demand, PMI services also remained in the expansion zone at 57.8 in March, driven by favourable demand conditions and new business gains.

• Aggregate demand conditions were resilient in Q4 of 2022-23, with urban demand indicators like passenger vehicle sales and credit card spending registering robust growth in February

• Non-food bank credit rose by 15.4% (y-o-y) as on March 24, 2023, total flow of resources to the commercial sector increased by ₹26.0 lakh crore during 2022-23 as against ₹19.0 lakh crore a year ago.

• Consumer durables contracted in January, while rural demand indicators such as consumer non-durables, tractor and two-wheeler sales registered healthy growth

• Investment activity exhibited buoyancy due to government’s thrust on infrastructure spending, high capacity utilisation and revival in corporate investment in certain key sectors.

• Protracted geopolitical tensions and global financial market volatility pose downside risks to the outlook, drag from net external demand may continue due to increased global headwinds.

Assessment of Inflation:

• Softening in inflation during November-December 2022 was transitory with CPI headline inflation breaching the upper tolerance threshold during January-February 2023.

• Sharp turnaround in food inflation drove the pick-up in headline inflation as core inflation remained elevated across a range of goods and services.

• Record rabi harvest expected to ease food price pressures, with evidence of correction in wheat prices in March on supply side interventions by the Government. However, impact of recent unseasonal rains in some parts of the country needs to be watched.

• Global commodity prices have moderated significantly from their heightened levels a year ago, cost conditions have somewhat eased and inflation expectations of households have edged down, adverse climatic conditions are a risk to the future inflation trajectory, milk prices are also likely to remain firm due to structural factors.

• These are very volatile times, as evidenced by the sudden announcement of an output cut by OPEC+ and resultant jump in crude oil prices.

• Growth has become broad-based and inflation has softened from its elevated levels a year ago, but still remains above the upper tolerance band.

• Projections for 2023-24 point to a softening in inflation, but the disinflation is likely to be gradual and protracted due to rigidity in core or underlying inflation pressures

RBI’s GDP and CPI Estimates:

INR Outlook:

The Indian Rupee has remained one of the least volatile currencies among its Asian peers in the calendar year 2022 and continues to be so this year also. Throughout 2022 and into 2023, the Indian Rupee has maintained a stable and organized movement, which indicates the strong macroeconomic fundamentals of the country and its ability to withstand global economic impacts.

External Sectors:

• The current account deficit (CAD) for the first three quarters of 2022-23 was 2.7% of GDP.
• In Q3, the CAD narrowed significantly to 2.2%, due to lower merchandise trade deficit and strong growth in services exports.
• Services exports grew healthily across key verticals such as IT services, BPM, and ER&D, supported by a rise in global capability centres (GCCs).
• The merchandise trade deficit continued to narrow in January and February 2023, with sustained decline in imports.
• Inward gross remittances reached a record high of US$ 107.5 billion during calendar year 2022.
• The CAD is expected to remain moderate in Q4:2022-23 and in the year 2023-24 at a level that is both viable and eminently manageable.
• Foreign exchange reserves have rebounded from US$ 524.5 billion on October 21, 2022, and now stand in excess of US$ 600 billion taking into account our forward assets.

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