As expected, the Monetary Policy Committee of the Reserve Bank of India has maintained status quo on rates in its latest policy announcement. On the face of it, the Governor sounded confident about the domestic economy and ‘eminently manageable’ external account. But the tenor of the policy was one of circumspection. The central bank appears concerned about the risks arising from a volatile global financial market and aggressive monetary tightening by other central banks.

The Governor’s emphatic assertion that the target CPI rate for the central bank is 4 per cent, and not the 2-6 per cent band clearly signals that we have to live with elevated interest rates for some time to come. CPI inflation for FY24 is projected at 5.4 per cent and the forecast for FY25 averages 4.5 per cent — the 4 per cent target lies way beyond the near-term horizon. The view to hold rates at a higher level appears to be influenced by the bedlam in financial markets over the past month. The sharp surge in US bond yields has shrunk the spread between the 10-year Indian and US sovereign bond yields to less than 250 basis points; the lowest since 2007. Though the Governor took great pains to explain that domestic policy is not dictated by what happens in the Western world, it is obvious that the central bank will have to maintain rates at current levels or increase them to prevent foreign portfolio outflows. The announcement that the central bank will be conducting open market operations in the coming months seems to be partly intended at pushing bond yields higher; Indian 10-year bond yield moved higher by 12 basis points on Friday. Higher interest rates and a tight check on liquidity conditions will help rein in inflation, the outlook on which is uncertain. Though retail inflation could move lower in the coming months on subdued vegetable prices, lower reservoir levels, and an uncertain outlook on cereals, pulses and oilseeds output, besides the trajectory of energy prices, are worries.

Governor Das has rightly frowned upon the “lazy“ practice of banks to park their surplus funds in the Standing Deposit Facility and has exhorted them to “explore” opportunities to lend in the inter-bank call money market. The idea is to level the skewed liquidity in the market where some banks have a surplus and others are looking for shot-term funds. Similarly, the central bank has done the right thing by sounding a warning on growth in certain personal loan categories, and urged banks and NBFCs to put safeguards in place. Personal loans have burgeoned in recent times, accounting for the highest share in bank credit at 32 per cent, as on March 2023.

According to RBI’s household savings and liabilities data, net household savings declined 19 per cent in FY23 while household liabilities, excluding mortgage loans, grew 99 per cent. RBI’s warning may have to be followed by increasing risk-weights on some of these loans. As the Governor noted, RBI is playing on a turning pitch.

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