The six-member monetary policy committee (MPC) of the Reserve Bank of India (RBI) on Wednesday increased the repo rate by 25 basis points to 6.25%.
The MPC arrived at the unanimous decision as the outlook for inflation had become ‘uncertain’ following a surge in international crude oil prices.
This is the first rate hike in four-and-a-half years; the last was in January 2014.
Interest rates may go up
Banks may have anticipated the RBI’s move as major lenders such as the State Bank of India, the ICICI Bank and the Punjab National Bank had raised their lending rates last week. While banks that have already raised rates may not increase them immediately, those yet to act are likely to announce revisions.
The RBI increased its inflation projection to 4.8%-4.9% in the first half (H1) of the financial year and 4.7% in the second half, as compared with 4.7-5.1% in H1 and 4.4% for H2. “A major upside risk to the baseline inflation path in the April resolution has materialised, viz., 12% increase in the price of Indian crude basket, which was sharper, earlier than expected and seems to be durable,” the central bank said, adding that the Indian crude basket surged to $74 a barrel from $66 since the last policy meeting in April.
“Crude oil prices have been volatile and this imparts considerable uncertainty to the inflation outlook — both on the upside and the downside,” RBI said.
Consumer price index-based inflation, or retail inflation, rose to 4.6% in April from 4.28% in March.
The central bank also observed that inflation expectations were on the rise, evident from its survey of households.
While the central bank has increased the inflation projection, it has maintained the ‘neutral’ stance for monetary policy, meaning interest rates can move either way.
“It is not conflicting at all… a neutral stance leaves all options open and other central banks also do the same,” RBI governor Urjit Patel said in the post-policy media interaction, asked if an increase in inflation projection along with a neutral stance sent conflicting signals. “The committee felt there was enough uncertainty for us to keep the neutral stance and yet respond to the risk to inflation targets that has emerged in recent months,” Dr. Patel said.
The outlook for GDP growth for 2018-19 has been retained at 7.4% as projected in the April policy. GDP growth is projected to be in the range of 7.5-7.6% in H1 and 7.3-7.4% in H2, with risks evenly balanced, the RBI said.
Market participants said they anticipate more rate increases in the coming months due to further risks to inflation.
“This is not likely to be the end of the hike cycle as domestic price risks such as MSP hikes and firm global commodity prices would warrant further monetary action.” said Abheek Barua, chief economist, HDFC Bank.