RBI may hike rates in June, but it will be a tough call

With just a week to go for the June 2022 monetary policy, the expectations are strong that rates would be hiked by 50 basis points. In a recent report by Barclays, they have estimated that the RBI would raise repo rates by 50 basis points from 4.40% to 4.90%.

In addition, the RBI is also expected to hike the CRR (cash reserve ratio) by 50 basis points from 4.5% to 5% in order to amplify the eventual impact of the rate hike on inflation in the economy.

It may be recollected that in an unscheduled MPC (Monetary Policy Committee) in early May 2022, there was already a 40 bps rate hike combined with a 50 bps CRR hike. However, even if rates are hiked by 50 bps in June 2022, the rates would still be 25 bps below the pre-COVID levels since the RBI had cut rates by 115 basis points in two tranches at the start of the pandemic. The CRR hike by 50 bps will absorb liquidity to the tune of Rs.87,000 crore.

However, Barclays also expects more instances of rationalization by the RBI during the June monetary policy. They expect the inflation to be raised from the current estimate of 5.7% for FY23 to a more realistic level of 6.2% to 6.5%.

That would be above the upper tolerance limit of the RBI. In addition, Barclays also expects the RBI to downsize the GDP estimate for FY23 by 20 bps from the current 7.2% to 7%.
 

In between, the RBI governor in a series of interviews has already called a rate hike in June a fait accompli. In fact, Shaktikanta Das has taken pains to underline that the current rampant inflation called for urgent and rapid measures to control prices.

This is more so since inflation normally hits the vulnerable sections of the economy the hardest. However, in reality, the decision to be very hawkish may face some resistance.
Why resistance is likely for sustained hawkishness

There are several reasons why the RBI may be forced to rethink its extreme hawkish stance. Here are a few reasons.

a) While the RBI has embarked on rate hikes and CRR hikes in May 2022, it has also supplemented that with fiscal measures like export quotas on wheat and sugar, export duties on iron ore and waiver of import duties on coking coal and edible oils. These have also served to control inflation.

b) Secondly, a recent SBI report has suggested that growth in GDP may have slowed to 2.5% in the March quarter and that will be evident only on 31st May when the fourth quarter GDP number is announced.

c) The US is already expected to have announced de-growth in GDP in the March quarter and China is suffering a serious slowdown in growth due to stringent COVID restrictions. That would means that even global central banks would be less than ultra-hawkish.

d) Lastly, most of the economists, including Larry Summers, have underlined that aggressive rate hikes when economies are just recovering have the potential to create a recession instead of containing inflation. The R-word is a dreaded word.

So, what is the most likely outcome. Like the US Fed, the RBI may also delivery 2 rounds and then review. So, 50 bps rate hike in June combined with a 50 bps CRR hike looks to be on the cards. How hawkishness pans out after that would be more data contingent. That is most likely to circumscribe the hawkishness of central banks.