The meeting on November 3 is about drafting an explanation for the central bank failing to adhere to the inflation target for three straight quarters.
“The unscheduled meeting on 3 Nov’22 recently announced is only a part of the regulatory obligation (for failing to bring inflation within mandated band for three straight quarters) and we do not believe any other agenda to be announced at this meeting, against the market expectation of a slim chance of rate hike as the meeting is scheduled a day after the Fed meets on 2nd Nov’22,” Soumya Kanti Ghosh, group chief economic adviser at State Bank of India, said in a research note.
The process of explaining failure
India’s retail inflation surged to a five-month high of 7.4 percent in September, logging the third straight quarter where the average print stayed above the RBI’s tolerance ceiling of 6 percent and it has breached the medium-term target of 4 percent for three years.
As mandated by a law, the RBI will have to explain to the government the reasons for the failure to bring it within the 2-6% mandate and the remedial measures to fix it.
‘The letter is a privileged communication between the Reserve Bank and the government… From our side, we will not make it public.’ Having said that, RBI Governor Shaktikanta Das had squashed any hope that we may hear the inside story of why the central bank and the Monetary Policy Committee (MPC). However, thanks to the law, we may get a good peak this Thursday.
Under Section 45ZN of the RBI Act, the central bank will have to set out in a report to the Central Government the reasons for failure to achieve the inflation target; remedial actions proposed to be taken by the Bank; and an estimate of the time-period within which the inflation target shall be achieved pursuant to timely implementation of proposed remedial actions.
Also, in accordance with the Regulation 7 of the RBI MPC and Monetary Policy Process Regulations, 2016, a separate meeting is required to be scheduled by the Secretary to the Committee, as part of the normal policy process to discuss and draft the report to be sent to the Government, SBI notes.
The Report must be sent to the Government within one month from the date on which the Bank failed to meet the inflation target. So, the RBI has to submit the report before November 12 as the September inflation data was released on October 12.
The inflation threat
Higher inflation has been a concern for central banks across the globe, including India, as the uncertain nature of the Russia-Ukraine war compounded supply side disruptions in the post-pandemic world that was barely going through a nascent recovery from economic shocks.
The recovery was accompanied by rising global commodity prices as pent-up demand overwhelmed supply. The outbreak of the conflict aggravated the commodity upcycle and almost obliterated the supply chains of key critical commodities such as coal, metals, edible oils, and crude oil, with the latter two being essential and major imports of India.
The nation’s largest bank said today in the research note that unseasonal rains that are affecting kharif crops are now another threat to inflation. Along with grains, the prices of vegetables, milk, pulses and edible oils, which account for over a quarter of the overall CPI, are rising and likely to remain high in the coming months, SBI said.
India’s October rainfall was 44% above normal, the three months average food CPI was a whopping 10.9% as against 4.9% in the preceding 3 months. This indicates that unseasonal rains may have a large negative impact on food inflation in coming months, it added.
“In 2019, when unseasonal rains happened, average food prices more than doubled from 4.9% to 10.9%. Currently, the September food inflation is at 8.4% and a similar trend like the one seen in 2019 can put headline inflation towards 7.5% in December,” SBI said. “This could put a spanner to the inflation projections of RBI and market consensus. This could also mean that the terminal repo rate could still be difficult to comprehend at this time, though consensus puts it at 6.5%.”
Rate hike pace to ease?
To rein in the galloping inflation rates across the world, key central banks and India too had hiked rates in tandem.
India’s Monetary Policy Committee has gone for cumulative 190 basis points of key policy rate hike since May, taking the repo rate to pre-Covid levels, while the Federal Reserve has opted for a steep 75 bps rate increase in each of the last three meetings that lifted borrowing costs in the world’s largest economy to the highest since 2008.
However, many now believe that the Fed rate hikes post November will be slower than expected. A dovish ECB guidance and dovish Bank of Canada rate hike confirm that such optimism of the markets may not be entirely unfounded, SBI said.
US GDP growth came in stronger than expected and the wage-price spiral is beginning to ease as reflected in the most recent reading of the US Employment Cost Index that showed a considerable slowdown in private-sector wage growth. Consumer spending, which accounts for more than two-thirds of US economic activity, also slowed.
“All this conjures up for a significantly lower probability of a 75 bps hike for mid-December (65% probability), with the narrative for a 50 bps hike taking pole position now. Against this background, recent MPC minutes in India suggest some members are looking for an early end to the rate hike cycle.”
A December rate hike by India’s rate-setting panel is still widely expected. However, analysts are divided over the next rate increase, with some of them seeing another 35 bps hike in December while others say the next rate move will be data-dependent.
There is also a lot of uncertainty now if there will be unanimity among MPC members in the policy meetings and also on the decisions to be taken at their November 3 meeting, given that the minutes of the latest meetings showed divergent views.
In September, one member had voted against the resolution raising the repo rate by 50 bps, while in the August meeting as well there were differences of views on the resolution.
Going back to what may turn out from the Nov 3 meeting, SBI reminds us that looking at the past unscheduled meetings of MPC in March 2020 and May 2022, there were no prior press releases of such meetings and the announcement of rate decision was unscheduled in true sense.
Separately, RBI in its Report on Currency & Finance (2020-21) has mentioned that in the case of India, failure may be redefined as inflation overshooting/undershooting the upper or lower tolerance bands around the target for four consecutive quarters instead of current three quarters.