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Monetary Policy 2021: 5 risk factors before Monetary Policy Committee

Monetary Policy 2021: 5 risk factors before Monetary Policy Committee

The RBI is trying its best to keep the interest rates low to support the economic recovery and also facilitate government's huge borrowing plan in 2021-22

The six-member monetary policy committee (MPC) is expected to keep the repo rate unchanged  at 4 per cent while continuing with the accommodative stance. RBI Governor Shaktikanta Das will announce the monetary policy next week on Wednesday.  The RBI is trying its best to keep the interest rates low to support the economic recovery and also facilitate government's huge borrowing plan in 2021-22. However, there are multiple risk factors to RBI's current ultra loose monetary policy.

RISING INFLATION NUMBERS

In the last year, inflationary pressure has returned in the economy. Supply chain issues post Covid created a spike in inflation. The surplus liquidity in the system is also contributing to high inflation. Retail inflation or consumer price index (CPI) was 5.03 per cent in February, which is more than the RBI's mandated 4 per cent with a tolerance of  2 to 6  per cent.

The government has also decided to continue with 4 per cent inflation target for the next five years. The wholesale inflation index (WPI) has also doubled from 2.26 per cent in January to 4.17 per cent in February. The impact of WPI  will get reflected in CPI with a lag effect. Given the higher borrowings with fiscal deficit target of 4.5 per cent by 2025-26  and the RBI's own inflation projection of 5 per cent till September, it will be challenging for the MPC to keep the repo rate at 4 per cent in 2021.  

Also read: Govt leaves retail inflation target untouched at 2-6%

HIGHER CRUDE PRICES

The sudden rise in crude prices is also contributing to inflationary pressure. In the last six months, the crude oil prices have jumped from $40 a barrel to a high of $70 per barrel. The prices are currently hovering around $65 a barrel.  Global investment banking firm Goldman Sachs has predicted crude prices crossing $80 a barrel mark by the end of this year. The OPEC (Organisation of the oil exporting countries) is also moving cautiously in increasing oil production on account of rising Covid cases and delayed recovery.

Also read: India shows its clout to the world with its secret oil 'weapon'

SECOND WAVE OF COVID

India is now witnessing a second wave of Covid in half a dozen states like Maharashtra, Punjab, Kerala  and Karnataka. The second wave will impact the supply chain and contribute to inflation because of restrictions, night curfew, etc. Globally, there are some countries which are staring at a third wave. France and Kenya are witnessing a third wave. If the Covid disruption continues and spreads to smaller town and cities, it has the potential to impact agri supply chain and fuel inflationary pressure.  

RISING G SEC YIELDS

The rising G-Sec yield in the 10 year paper is an indication of higher borrowing cots.  The 10 year yield, a benchmark, has shot up from a low of 5.94 per cent to 6.21 per cent in the last two months. The cost of borrowing for state government is also rising.  It is challenging for banks  and other  investors to absorb the total borrowings of over Rs 20 lakh crore from centre and states in 2021-22. They are demanding a higher yield. In fact, the G-sec  yield also acts as a benchmark for corporate bond rates. The rising yield is a global phenomenon as large borrowings by governments is pushing the yields up.

Also read: 'Amazing how far India has come compared to last year', says World Bank on economic recovery

HIGHER DEPOSIT RATES

The banks and NBFCs have also started hiking the term deposit rates. In January, the largest bank in the country, SBI, increased the term deposit rates by 10 basis points. The housing major HDFC Ltd  has hiked the fixed deposit rates by 25 basis points. The private banks are struggling to maintain their CASA levels as newer banks with differentiated banking models are offering higher interest  rates. In fact , the RBI is also expected to gradually exit from the ultra loose monetary policy, which will tighten the liquidity in the market.

Also read: Inflation uncomfortably high in India, says Moody's Analytics