The Reserve Bank of India has adopted a hawkish policy stance, stating that inflation remains too high and that it might take measures to absorb excess liquidity in the market to keep pressure on prices under control.
Governor Shaktikanta Das and the rest of his six-member monetary policy committee unanimously voted to keep the benchmark repurchase rate at 6.5%, in line with economists’ recommendations.
While inflation has eased slightly to 6.83% in August and is expected to slow down in the coming months, Das reminded market observers that price growth still significantly exceeds the target. “I would like to strongly reiterate that our inflation target is 4%, not 2 to 6%,” Das said. “Our goal is to align inflation with the target while supporting growth sustainably.”
He also warned of inflation risks related to excess liquidity in the market and surprised investors by announcing that the RBI was considering selling bonds to absorb additional liquidity. This suggests a shift from relying on interest rates in favour of liquidity management tools to control inflation. The yield on 10-year bonds rose by 13 basis points, a record since August last year, to 7.34% after his comments.
By holding firm on interest rates, the Reserve Bank of India seeks to strike the right balance between supporting growth and guarding against the risk of further Federal Reserve hikes and rising oil prices. It sends a message that the central bank is determined to bring inflation back to its 4% target in the medium term.
India experienced its weakest monsoon in five years, with June to September precipitation being about 6% below the long-term average. Rising crude oil prices do not bode well for India, the world’s third-largest oil consumer. RBI’s projections are based on an oil price of $85 per barrel in the second half of the fiscal year. Even after the recent decline, the WTI price remains above $82.
The RBI has raised its policy interest rate by 2.5 percentage points since last year to help curb inflation and support the rupee. Federal Reserve rate hikes and the dollar’s strength have weighed on the rupee and local bonds. However, this pressure could ease in the coming months once India is included in JPMorgan & Co.’s emerging market bond index early next year, which should bring in more foreign inflows.