In a move that has surprised everyone, the Reserve Bank of India in its mid-quarter monetary policy review has not changed either the policy repo rate or the cash reserve ratio (CRR). The repo rate remains at 7.75 per cent and the CRR at 4 per cent. On the eve of the policy statement there was an almost universal expectation that given the levels of inflation the RBI would most certainly hike the interest rate — signalling policy repo rate by at least 0.25 percentage points. Some also expected a change in the CRR. Liquidity levels in the system are comfortable. The extraordinary liquidity tightening measures that were introduced to support the rupee are being wound down. Liquidity conditions have also improved due to higher capital inflows from abroad in the wake of special facilities for banking capital and for non-resident Indians. With all other rates — the reverse repo, the marginal standing facility rate and the bank rate — being pegged to the repo rate and therefore remaining unchanged, the RBI has decisively opted for a status quo in its monetary and liquidity measures. The rest of the policy statement is an elaboration of this stance, which is based on the belief that monetary policy should not always be reactive.

Inflation is no doubt a serious problem: CPI inflation stood at 11.24 per cent in November, its highest level since the new composite index was introduced. Headline WPI inflation at 7.52 per cent has been moving up and is well above the RBI’s comfort level. Underpinning both are high food, especially vegetable, prices. The traditional belief that monetary policy will have little influence over supply side factors has been proved wrong, and irrespective of where inflationary pressures originate they need to be countered with all available policy measures. Persistent inflation reinforces inflation expectations. While maintaining that there is no room for complacency, the RBI feels it has enough reasons to wait and watch. For one thing, there is evidence that vegetable prices have started coming down. Second, the disinflationary impact of stable exchange rates will ease the pressure on prices. Finally, the lagged effects of monetary tightening since July should help. The decision not to raise the rates is obviously a debatable one. There is no room whatsoever for complacency. Should the moderation in prices not pan out as expected, the Reserve Bank says it will take action even outside the policy dates. The traditional policy dilemma of growth versus price stability remains. The latest policy statement reveals a more contemporary dilemma of whether to act immediately against inflation or wait for some time in the expectation of prices moderating. Timing is critical, and the RBI can be expected to remain vigilant.

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