Reserve Bank of India (RBI) Monetary Policy Review

RBI raises its' inflation projection keeping the policy rate unchanged.

Published bi-monthly by the Reserve Bank of India (RBI). Updated to the month of December 2019. (Published on December 5, 2019).

Recent Data Trend

The Reserve Bank of India (RBI) kept its policy rates unchanged with repo rate at 5.15% during its fifth-bi monthly policy meet for the fiscal year 2020 (fiscal year 2020 represents the duration between April 2019- March 2020). Consequently, the reverse repo rate was unchanged at 4.90% while the marginal standing facility (MSF) rate and the bank rate were unaltered and fixed at 5.4%.

The RBI has already cut its' policy rate four times so far in this fiscal year by 110bps, which is the maximum cut done during any fiscal year historically since 2009.

RBI started reducing the repo rate in Feb 2019 when the inflation went as low as to 2.05 % in Jan 2019, close to its' lowest tolerance level of 2%. With subsequent rate cuts in the following months, inflation has increased from 2.57% in February 2019 to 4.69% in October 2019 breaching its' medium-term target of 4%. Considering RBIs upper tolerance limit of 6% inflation until March 2021, there is still room for a rate cut. But another rate cut would mean the repo rate to be lower than 5% in almost a decade, as the lowest repo rate was at 4.75% in Feb 2010.

The price level measured by inflation has increased with lower repo rates, but there is not much of an improvement in the growth dynamics of the economy. The GDP for July-Sep'19 quarter grew only by 4.5% YoY, which is the lowest in almost 6 years. A cut in the central bank policy rate is expected to boost credit in the economy. Despite the subsequent rate cuts, bank credit has been on decline except for a marginal uptick in October. This indicates unsatisfactory transmission from bank rate cuts to the lending rate.

However, RBI claims that there has been a swift monetary transmission across various money market segments and the private bond market since the previous rate cut in October, and it expects the same to improve in the future.

Keeping its policy rate unchanged, RBI lowered its GDP growth forecast for the fiscal year 2020 to 5% YoY from 6.1% YoY in the previous meeting. CPI inflation projection is revised upwards between 5.1%- 4.7% for the second half (October to March) of the fiscal year 2020.

Hence, in the phase of low growth we can expect another rate cut when the inflation falls below the RBI projection. But monetary measures alone wouldn't suffice as a revival measure for a slowing economy, there is also an need of fiscal and sectoral measures at this juncture. 

Brief Overview

RBI's monetary policy has emerged as a critical policy tool for achieving overall macroeconomic management, price stability, and growth. The conduct of monetary policy has evolved over time on the front of the policy framework and operating procedure. Back in the 1980s, when the economy was plagued by high inflation fuelled by excessive money supply in the form of RBI credit to government, price stability became utmost important. So, RBI adopted "monetary targeting with feedback" (targeting money supply) as the monetary policy framework suggested by the Chakravarty Committee (1985).

With the development of the financial sector, liberalization of the economy (1991) and freeing up of interest rates and exchange rates, RBI shifted its focus from exclusive reliance on monetary aggregates to a broad set of indicators. Therefore, in 1998-99 RBI started pursuing the multiple indicators approach only to later face problems associated with fulfilling multiple objectives.

However, on the recommendations of the Urjit Patel Committee (2014), RBI shifted to a new monetary policy framework of "inflation targeting". Since 2014-15, RBI has kept its mandate of achieving price stability and growth via inflation targeting.

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Next Release Date: February 5, 2020