When the brutal second wave of the pandemic was wreaking havoc on lives and livelihoods in the summer, analysts were working out the various scenarios of an impending third wave. There were three models formulated and even the worst case scenario had predicted that the third wave, if and when it comes, will not be half as bad as the second one — both in terms of case loads and deaths.
The third wave was supposed to hit sometime in the end of October. We are now in the middle of December with no sign of it, but the threat of Omicron variant is looming. There seems to be a return of normalcy, but it all seems a little surreal.
In the midst of this normal yet uncertain period, the Reserve Bank of India maintained "status quo" of policy rates, which means it kept the repo rate unchanged at 4 per cent.
The central bank also pegged GDP growth at 9.5 per cent for 2021-22 and inflation at 5.3 per cent. The Finance Ministry in its monthly economic review report said that the economy had grown at 8.2 per cent in the second quarter. So by official estimates, the economy seems to have bounced back to its pre-Covid levels.
But just to spoil the party, on Monday, the Consumer Price Index touched a three-month high at 4.9 per cent in November. Core inflation, which excludes food and fuel inflation, touched 6.08 per cent, way above the RBI’s comfort level.
So for the time being the RBI has retained its “accomodative” policy. Which means though inflation is on the horizon, for now, the central bank has chosen to ignore it and pull its weight behind the nascent but uneven growth.
The imponderables
But for how long, is the crucial question? The US Fed has already indicated that it will wind down its easy money policy completely by March 2022, in its recent meeting. The Fed Chairman Jerome Powell has dropped the word “transitory” while talking about inflation, which is an indication that inflation is here to stay. But more importantly the Fed is quite bullish on growth prospects. But the thinking is there will be at least three rate hikes by the Fed in 2022.
Many an economist has said in the recent past that this time around the Fed’s ‘taper tantrum’ will not hit India as hard as it did in 2013, when the external financial situation was much worse. India was even kept under the “vulnerable” category then by the IMF, thanks to runaway inflation and rising current account deficit then.
Today the situation is thankfully more sanguine with India’s huge forex reserves acting as a buffer and current account deficit being under control. But the stock markets, which have booming the past year, will see surely some correction, when the money taps in the West are turned off.
Inflation is also rising in Europe, and the ECB, is cutting back its stimulus by a “notch.” But much like the RBI, it is also wary of "turning off the money tap" too soon.
If and when the Fed hikes interest rates, foreign funds that have been flocking to India in the last one year in search of returns, may pack their bags, putting the rupee under pressure. The rupee has already breached the ₹76 mark on Wednesday.
Worryingly, the index of industrial production, or factory output, grew at 3.2 per cent in October, its lowest in the last eight months. Though various alphabets have been used to describe the current recovery, some economists say that the letter ‘K’ is most appropriate, with some sectors doing well and others still struggling.
When fuel prices were skyrocketing a few weeks ago, with retail petrol prices breaching the ₹100 mark in several cities, the Centre cut the excise duty and urged State governments to follow suit. Several did, resulting in some relief to consumers.
Omicron worries
The RBI has said that supply chain disruptions too are causing inflation. Which makes the Omicron threat a worrying factor, as if this variant spins out of controls we are likely to see, curbs on activity to halt its spread and may be even limited lockdowns. This will surely worsen the already vulnerable supply chain links and the patchy recovery process.
Nobel Laureate Abhijit Banerjee, speaking to students of Ahmedabad University during their convocation function recently, said Indians are in “extreme pain” and the economy is still below 2019 levels. More tellingly he said people’s aspirations are getting smaller. This surely puts a spanner on the more gung-ho pronouncements of the Finance Ministry.
Now if inflation becomes a bug bear, will the RBI in the medium term reverse its accomodative stance and bite the bullet and hike policy rates? How will that impact the recovery, which is at best patchy? Will we see another round of shadow boxing between the RBI and the Finance Ministry (as it has happened so many times in the past), with the former wanting to adopt a tight money policy to curb inflation and the latter pressurising the central bank to continue with its ‘Dovish’ stance?
The coming months will surely test the skills as well as the blood pressure levels of the RBI and Finance Ministry officials