The thirty fifth meeting of the Technical Advisory Committee (TAC) on monetary policy was held on January 20, 2014 in the run up to the Third Quarter Review of Monetary Policy 2013-14 on January 28, 2014.The main points of discussion in the meeting are set out below:

1. Members were of the view that global growth is showing signs of improvement in 2014, even though there are risks to this outlook. While growth in advanced economies may improve, recovery in the emerging market economies is expected to be slow. Uncertainty regarding the pace of tapering of quantitative easing by the US remains a major source of risk for India.
2. The general economic situation was assessed to be weak by the Members, with risks to growth persisting and no green shoots in sight. While the industrial sector has stagnated for quite some time, the services sector growth has decelerated below 6.0 per cent. The construction sector was most severely affected within the services sector. With weakness in both industry and services, with the exception of export-oriented entities, Members expected growth to be led by agriculture in the near-term. They expressed concern over the power situation in the country, which needs to improve for industrial growth to pick-up. Members were also of the view that growth may fall further in view of a squeeze in government expenditure.
3. Most Members expressed concern about elevated inflation expectations, persistence in consumer price index (CPI) inflation even after excluding food and fuel (i.e., core inflation), and the trending up of wholesale price index (WPI) excluding food and fuel inflation. Some Members, on the other hand, believed that India is not an outlier in terms of inflation – inflation rate remains high in several other emerging economies such as Brazil and Turkey. Following the sharp correction in vegetable prices, headline inflation has already moderated and may come down further if food prices continue to decline.
4. On the external front, Members were of the view that tapering of quantitative easing by the US remains a major source of risk. While uncertainties for India might have diminished, fundamental risks remain and if growth decelerates further, it may trigger some more capital outflows. Some Members believed that the market has already built in most of the developments and expected calm in the foreign exchange market in the absence of external shocks. Members opined that the Reserve Bank should closely monitor the real effective exchange rate (REER) and build up reserves further for crisis proofing.
5. On policy action, four Members recommended that status quo be maintained with respect to the policy repo rate. Most of these Members were of the view that political uncertainty in the near-term is the dominant factor constraining monetary policy. Given the political uncertainty and the fact that growth is already weak, a 25 bps increase in the repo rate may not have much impact on inflation unless a long term path is chalked out. The other reasons for status quo were existence of excess capacity in the economy, decline in nominal rate of wage growth, the softening of international commodity prices, and the stability in the exchange rate. One of the Members who recommended no change in the policy rate commented that political uncertainty may not be a major risk as India’s medium term fundamentals are strong. One Member recommended a cut in the policy rate by 25 basis points to support interest-sensitive sectors, especially construction. While the Member recognised that CPI inflation will remain elevated even in 2014-15, much of it was due to the aggressive push by the government for service tax collection. A rate cut, according to the Member, will demonstrate the Reserve Bank’s concern that growth does not come to a grinding halt. Two Members recommended an increase in the policy repo rate by 25 basis points. According to them, since CPI inflation excluding food and fuel is flat, and WPI inflation excluding food and fuel has gone up, the Reserve Bank should raise the repo rate to be consistent with its guidance. In their assessment, all estimates indicate that the output gap in India is minimal. Inflation is persistent, despite a low output gap possibly due to elevated and sticky inflation expectations. They referred to the conundrum posed by high CPI core inflation coexisting with the negative output gap, and cautioned that when the economy recovers, there could be upward pressure on inflation. To address the elevated levels of inflation expectations, the Reserve Bank should not wait for stability in the political situation to emerge; they recommended that the policy rate be increased in the upcoming policy review.
6. One Member was of the view that the Reserve Bank should exploit provisions under the RBI Act to support weak sectors of the economy by providing sector specific liquidity support or sector-specific reserves exemption. This will help in reducing the cost of funds for such sectors and promote growth.
7. The meeting was chaired by Dr. Raghuram G. Rajan, Governor. Internal Members: Dr. Urjit R. Patel (Vice-Chairman), Dr. K.C. Chakrabarty and Shri Harun R. Khan, Deputy Governors; and external Members: Shri Y.H. Malegam, Prof. Indira Rajaraman, Dr. Shankar Acharya, Dr. Arvind Virmani, Prof. Ashima Goyal, Prof. Errol D’Souza and Dr. Chetan Ghate were present in the meeting. Officials of the Reserve Bank Shri Deepak Mohanty, Dr. Michael D. Patra, Shri B.M. Misra and Dr. B.K. Bhoi were in attendance.

Since February 2011, the Reserve Bank has been placing the main points of discussions of the meetings of TAC on Monetary Policy in the public domain with a lag of roughly four weeks after the meeting.

Ajit Prasad

Assistant General Manager