To hold or hike rates? RBI faces inflation dilemma as food prices spike
Economists predict that retail inflation will continue to rise in July, surpassing 6 percent – exceeding the RBI's upper limit.
In Short
- RBI's fight against inflation gets tougher
- Sharp rise in food prices likely to push inflation higher
- RBI to maintain hawkish stance in upcoming policy review
Just a few months back, the Reserve Bank of India (RBI) seemed to have a smooth grip on inflation control, but that seems to have changed drastically.
Following a series of aggressive interest rate hikes, the central bank successfully lowered consumer price index-based inflation to a 2-year low of 4.25 percent in May. However, this accomplishment was fleeting, as retail inflation surged to a 3-month high of 4.81 percent in June.
The surge was triggered by an unexpectedly sharp increase in prices of essential items like vegetables, cereals, pulses, and even milk.
More inflation trouble
Economists predict that retail inflation will continue to rise in July, surpassing 6 percent – exceeding the RBI's upper limit. The ongoing rise in prices of essential commodities is driving this trend.
Escalating inflation presents a dilemma for the RBI. In the two recent policy reviews, the central bank's monetary policy committee (MPC) maintained steady rates but emphasised ongoing vigilance due to uncertain weather events and the El Nino phenomenon.
With the imminent threat of rising retail inflation in the months ahead, the RBI's battle against inflation takes on greater complexity and could shape its policy rate decision.
RBI's inflation dilemma
Yet, analysts and market participants suggest that the RBI is likely to uphold key rates in the upcoming policy review. A more aggressive stance wouldn't be unexpected, given the recent surge in food prices.
A survey of 75 economists by Reuters indicates that the central bank will retain the key repo rate at 6.50 percent.
Experts anticipate a hawkish tone from the RBI in the upcoming meeting, keeping the door open for potential future hikes if the situation worsens. Most economists anticipate higher-than-expected inflation in the second quarter.
Future hike cannot be ruled out
In its June policy meeting, RBI Governor Shaktikanta Das underscored the central bank's aim to maintain inflation within the 4 percent medium-term target, rather than just staying below the 6 percent upper threshold.
However, the current circumstances might force the RBI to wait longer to achieve this goal. Some experts even speculate a 25 basis points hike over the next two policy reviews if essential item prices keep surging.
Given this scenario, economists anticipate a more pronounced hawkish stance in the August 10 meeting, irrespective of whether the repo rate remains unchanged.
