The RBI’s decision to hold policy rates at current levels balances several factors and expectations, which are in line with our own view of the macro-economic outlook. First, subdued global growth offers limited support to India’s own GDP growth recovery, which will have to rely on domestic demand for further acceleration.
While headline GDP growth at levels above seven per cent is relatively robust on a global scale, there are still some pockets of weakness, and lingering uncertainty around the potential for a pick-up in private investment. Also, after several quarters of lower retail inflation, consumer prices are on an upward trend, particularly food inflation.
The RBI’s reference to incipient inflationary pressures and the easing of the front-loading of monetary policy suggests that the central bank’s future policy decisions will be guided by its view on the growth and inflation impact of the implementation of the Seventh Pay Commission recommendations, as well as by fiscal policy and structural reform measures. If government policies in the months to come are skewed towards promoting growth via stimulating demand (and consequently stoking inflation), the prospects of significant monetary easing will be reduced. Alternatively, if government measures aim at reviving private investment via reduction in supply bottlenecks, and inflationary expectations remain contained amid still subdued domestic demand trends, further monetary easing is likely.
From a sovereign credit perspective, the actual interest rate measures taken or not taken by the RBI do not affect the credit profile directly. Rather, it is the effectiveness of measures in meeting central bank goals and the transparency with which they are implemented that determines our assessment of institutional strength.
India’s high inflation in the past has been a constraint on its sovereign credit profile, and we believe that given food price volatility, the economy is vulnerable to future spikes in inflation. From this perspective, the RBI’s success in bringing inflation within its targets is credit positive. Today’s announcement supports our expectation that the central bank will remain vigilant to the risks to its targets. (The writer is associate managing director, Sovereign Risk Group, Moody’s Investors Service)
