RBI hikes policy repo rate by 50 bps to 5.40%

The Monetary Policy Committee (MPC) of the Reserve bank of India (RBI) at its meeting today (5 August 2022) decided to increase the policy repo rate under the liquidity adjustment facility (LAF) by 50 basis points to 5.40 per cent with immediate effect.

Consequently, the standing deposit facility (SDF) rate stands adjusted to 5.15 per cent and the marginal standing facility (MSF) rate and the Bank Rate to 5.65 per cent.

RBI said the MPC will remain focused on withdrawal of accommodation to ensure that inflation remains within the target going forward, while supporting growth.

These decisions are in consonance with the objective of achieving the medium-term target for consumer price index (CPI) inflation of 4 per cent within a band of +/- 2 per cent, while supporting growth, RBI stated.

This follows the 40 bps hike announced in May and the 50 bps hike in June this year. 

With this, the overall rate hike in three successive policy meets has gone up to 140 basis points.

After RBI's August policy meet decision today, the repo rate is above pre-pandemic levels of 5.15 per cent.

The hike in interest rate is in line with the global trend of monetary policy tightening to cool off inflation.

Higher interest rates are deemed to suppress demand in the economy, thereby helping to tackle inflation. 

RBI noted that since the MPC’s meeting in June 2022, the global economic and financial environment has deteriorated with the combined impact of monetary policy tightening across the world and the persisting war in Ukraine heightening risks of recession. 

The US dollar index soared to a two-decade high in July. Both advanced economies (AEs) and emerging market economies (EMEs) witnessed weakening of their currencies against the US dollar. EMEs are experiencing capital outflows and reserve losses which are exacerbating risks to their growth and financial stability.

On the domestic front, economic activity, however,  remains resilient. 

With better monsoon rains, Kharif sowing is picking up. High frequency indicators of activity in the industrial and services sectors are holding up. Urban demand is strengthening while rural demand is gradually catching up.

Merchandise exports recorded a growth of 24.5 per cent during April-June 2022, with some moderation in July. Non-oil non-gold imports were robust, indicating strengthening domestic demand.

Consumer price inflation eased to 7.0 per cent (year-on-year, y-o-y) during May-June 2022 from 7.8 per cent in April, although it persists above the upper tolerance band. Food inflation has registered some moderation, especially with the softening of edible oil prices, and deepening deflation in pulses and eggs. Fuel inflation moved back to double digits in June primarily due to the rise in LPG and kerosene prices. While core inflation (i.e., CPI excluding food and fuel) moderated in May-June due to the full direct impact of the cut in excise duties on petrol and diesel pump prices, effected on May 22, 2022, it remains at elevated levels.

Against this, RBI said, overall liquidity within the system continued to be in surplus, with average daily absorption under the LAF at Rs3.8 lakh crore during June-July. Money supply (M3) and bank credit from commercial banks rose (y-o-y) by 7.9 per cent and 14.0 per cent, respectively, as of 15 July 2022. India’s foreign exchange reserves were placed at $573.9 billion as of 29 July  2022.

RBI noted that the spillovers from geopolitical shocks are imparting considerable uncertainty to the inflation trajectory. More recently, food and metal prices have come off their peaks. International crude oil prices have eased in recent weeks but remain elevated and volatile on supply concerns.