Reserve Bank's recent rate hike was needed to battle inflation effects: MPC minutes

The recent increase in the report rate by 50 basis points (bps) was necessary to combat the risks and effects caused by the inflation, according to the minutes of the meeting of Reserve Bank of India Monitary Policy Committee (MPC), held on from September 28 to 30.

Michael Patra, Deputy RBI Governor and internal MPC member, was quoted in the minutes as saying the focus should be on aligning inflation with target. "In this context, front-loading of monetary policy actions can keep inflation expectations firmly anchored and balance demand against supply so that core inflation pressures ease,” Patra said.

According to the minutes, the MPC is optimistic that the Indian economy is resilient despite the inflation and rising cost pressures, and presents macroeconomic and financial stability. "The balance sheet of key stakeholders like corporates and banks remain strong," RBI said.

RBI Governor Shaktikanta Das said some of the global ripples have affected India, too.

"In an interconnected world, however, the Indian economy is obviously impacted by the unsettled global environment. There are pronounced consequences not only for our domestic inflation and growth dynamics, but also financial markets," Das said.

As per the minutes, all six members of the MPC, with the exception of Ashima Goyal, voted to increase the repo rate by 50 bps. Goyal was batting for a 35 bps hike.

"Most analysts are arguing for a 50 bps rise just to preserve a spread with US policy rates. This is a fear driven over-reaction. In the mid-2000s the spread was less than 150 bps and there were large capital inflows. In the past two years, spreads of above 300 bps have not brought in debt flows. If the terminal Fed rate is 5%, will it require we raise ours to 8%? The carry trade is not a stable source of financing. India has earned enough independence to protect itself from policy errors of other nations.

A Moneycontrol report stated that inflation has now completed three full years above the central bank’s medium-term target of 4 percent. More importantly, inflation has been outside the mandated 2-6 percent tolerance range for three consecutive quarters, which is the definition of failure under the flexible inflation targeting framework.

As per the law, the RBI must now submit a report to the central government explaining why it failed to contain inflation, the remedial actions it proposes to take, and the time period within which inflation will return to target.