Growth First

Context: Confronted by multiple challenges, including inflationary pressures and an uneven economic recovery, the central bank has chosen to prioritise growth by keeping the repo rate unchanged.

Rationale behind accommodative policy stance by RBI

• An impending risk of taper tantrum: As US Fed envisages a possible hike in the policy rate by early 2022. A possible capital flight can dampen economic recovery.
• RBI treated inflationary pressures as “transitory”, attributing them to supply chain disruptions.

Policy risks before RBI

• Building inflationary pressures: Due to soaring commodity and energy prices.
• Problem of excess liquidity: RBI has not announced anything specific about the liquidity normalisation procedure, except abstaining from announcing a further G-sec Acquisition Programme (G-Sec).
  • Policy rate challenges: There was no upwards revision in the reverse repo rate. That is, no indication of tightening monetary policy corridor.
  • Mounting foreign exchange reserves have increased the liquidity in the economy, can further increase high-powered money in the system.
  • Concerns with continuing Operation Twist: That is, simultaneous buying (long term) and selling (short term) of bonds to postpone refinancing risks. This adds to concerns over delay in policy normalisation in financial markets.
  • Risk of bad credit: The excess liquidity can possibility fuel a cycle of bad credit.
• Pressures from bulging fiscal deficit: Fiscal deficit flared up to 9.5% of GDP in revised estimates for FY21.
  • Any normalisation on fiscal stimulus can be detrimental to economy during a pandemic.
  • Controlling fiscal deficit through expenditure compression can have negative repercussions on growth.
• Uncertainties over monetary policy function to integrate climate change variables: Green bonds strategy can open up a political economy question that may limit the degree of freedom the RBI needs to maintain price and financial stability.