Weakening growth momentum, softening prices led to rate cut; loans to MSMEs shrink: RBI

Mumbai: The Monetary Policy Committee (MPC) has noted the "weakened growth momentum" amidst inflation cooling off to lower the key policy rates to create a "congenial environment" for growth, the Reserve Bank of India (RBI) explained on Thursday as the reasons for the surprise rate cut earlier this month.

In his debut policy review as the governor, Shaktikanta Das argued that there was a need to look at growth concerns, according to the minutes of the MPC meeting shared by the RBI on Thursday.

At the 7 February bi-monthly monetary policy review, the MPC in a 4:2 vote, surprised markets with a 25 bps repo rate cut to 6.25 percent and also revised downwards its inflation outlook for next fiscal year.

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"Growth impulses have weakened and there is a need to spur private investments and strengthen private consumption, especially in the wake of slowing global growth," Das argued and voted for a cut.

Representational image. Reuters.

Pointing out to inflation being low and risks to the price index being more balanced in the future, he argued that "the space has opened up for policy action to address growth concerns in pursuance of the provisions of the RBI Act as amended in 2016."

It can be noted the RBI is mandated to maintain inflation at 4 percent with a 200 bps up or down this level, in the medium-term while addressing the growth concerns as well. The headline inflation print came in at 2.2 percent for December, which Das said as being a surprise on the downside.

"Outlook for food inflation is expected to be benign in the backdrop of excess domestic supply of many food items," Das said, adding softening crude prices will also be of help.

He said to MPC that households inflation expectations have also come down over time, terming it as a "welcome development",and that we need to be vigilant about reversal in vegetable prices, haziness in oil prices, spike in healthcare and education cost and also impact of budget proposals.

On growth, he also argued that while the Central Statistical Office (CSO) has pegged GDP expansion at 7.2 percent for FY19, there are signs of growth slowing down as compared to RBI's earlier projection of 7.4 percent growth for FY19.

Pointing to the recent high frequency indicators, he said there is evidence of investment demand losing traction, capital goods and import of coal contracting and also an overall moderation in the demand conditions.

Noting the healthy credit growth achieved by the banking system, Das said loans to MSMEs enterprises have contracted, while credit to large industry expanded at a moderate pace.

Das said GDP growth in FY20 will likely come at 7.4 percent, which the policy resolution had also mentioned.

Das, along with executive director Michael Patra and external members Pami Dua and Ravindra Dholakia had voted for the 0.25 percent rate cut, while deputy governor Viral Acharya and external member Chetan Ghate voted against the cut.

"The assumption of particularly benign food inflation in the short-run imparts significant upside risks to the inflation trajectory, at the short and/or medium-term horizons, from the fiscal adjustments that would be necessary to address resulting in agrarian distress and to boost rural demand," Acharya argued.

He further said the assumption of sustained low momentum in food prices leads to a consideration of the risk of agrarian distress and noted that such distress "will necessitate a politico-economic response" in the form of fiscal support to the agrarian economy in the short-run the effects of which may play out partly over the next 12 months and partly beyond.

Acharya also disagreed with the majority view on growth saying the present levels are "healthy" and voted for a wait-and-watch before acting on the policy rates.

"It seems better to me, in times of presently healthy levels of growth, to wait till the next policy by when uncertainties...around one-off surprises in health and education inflation, oil prices, and global recessionary risks, could resolve," he argued.