Why Subbarao went easy on inflation for so long

The Reserve Bank’s Technical Advisory Committee (TAC), which advises the Governor on his monetary policy options, seems to be a manned more by inflation doves than hawks. Till recently, one presumed that the RBI was going slow on raising rates because of political pressures. But now it seems like even TAC preferred to bark on inflation rather than bite.

According to the recently released minutes of a TAC meeting held on 27 April, most members were calling for a 25 basis-points hike in the repo rate, the rate at which the RBI lends to banks in need of short-term funds. (100 basis points make 1 percent). Governor D Subbarao, however, ignored the advice and opted for a stiffer hike of 50 basis points in its 3 May monetary policy.

Only two members had favoured a 50 basis-points hike, and the Governor came down on the side of the minority hawks this time. “While four members of the committee were of the view that the repo and reverse repo rates be raised by 25 basis points each, two members suggested a 50-basis point increase each…”, The Economic Times says, quoting from the minutes.

This is not very different from what transpired at the 19 January meeting of the TAC, where too members talked about the need to “contain inflation and anchor inflation expectations.” The committee said that the “main challenge before the Reserve Bank was to manage inflation,” but would not go beyond recommending homoeopathic doses of repo rate hikes (25 basis points at a time). This raises the possibility that the Governor’s baby steps on inflation may have been the result of TAC’s doves.

According to the minutes of the 19 January meeting that provided policy inputs for the 25 January monetary policy statement, only “one member suggested a 50 basis points increase in the repo rate and 25 basis points increase in the reverse repo rate.”

But some members were clearly becoming worried even then. “In addition to the increase in policy rates by 25 basis points each, one member was of the view that the statutory liquidity ratio (SLR) could be increased to reduce the borrowing capacity of the banks and the repo facility could be linked with the credit-deposit (CD) ratio of banks to bring in discipline.”

What stands out is the fact that the doves outnumbered the hawks in the 17-member TAC, and it was only after the 27 April meeting - when inflation was clearly seen as going out of control and heading towards double-digits - that the Governor took the hard decision of going with the minority view on raising interest rates by 50 basis points.

Apart from Subbarao, who is Chairman of TAC, the committee has the Deputy Governor, Subir Gokarn, Shyamala Gopinath, KC Chakrabarty, Anand Sinha, Shankar Acharya, YH Malegam, Sanjay Labroo, Sudipto Mundle, Samir K Barua, A Vasudevan, Dilip M Nachane, Deepak Mohanty, Janak Raj, KUB Rao, Pardeep Maria and Amitava Sardarwere as members.