RBI's rhetoric takes a U-turn, key rates may see a hike of up to 100 bps

The minutes of April policy are out now. It shows that the RBI's rhetoric has moved in a hawkish direction and the key policy rates may go up as high as 100 basis points (bps).

However, a majority of the six-member panel headed by the RBI governor Dr Shaktikanta Das, believes that, amid economic normalization, the gradual rebalancing of liquidity and the move toward equilibrium real rates are consistent with non-inflationary growth.

With inflation likely to exceed 6 per cent for three consecutive quarters, especially if energy prices remain elevated, the RBI, as per an Emkay study, is likely to get quite perturbed. With higher food price pressure in the near term and persistent input cost pressure in the non-food segment, the analysts see inflation crossing 6 per cent in the current fiscal.

So, a hike in key policy rate was imminent, most probably in June s when RBI reviews its monetary policy for the next time. Not to mention, FY23 could see rates go up by 100 bps. The terminal rate may be a tad higher than 5.25 per cent, with the RBI now showing its intent to keep real rates neutral in the medium term.

The split on the accommodative stance (with Varma's dissent) that had been there for a long time now finally turned into a unanimous vote on the withdrawal of accommodation, as most members see inflation risks getting unhinged. Most members believe that, amid economic normalization, the gradual rebalancing of liquidity is needed in order to move toward equilibrium or neutral real rates consistent with non-inflationary growth. Some members reckoned, as long as rates remain below neutral real rate, it is still not a tightening regime.

Even though the economic outlook is being impacted by huge crosscurrents and shifts - the net impact of which is still hard to gauge, the RBI's rhetoric has moved in a hawkish direction. With the reaction function pivoting back toward inflation over growth as a policy priority, the bias is clear. On growth, members broadly believed that economic recovery continues to gather momentum but needs continual support to catch up on lost ground, and that real rates will still be growth supportive even as they rise ahead.

With the reaction function pivoting back to inflation over growth as a policy priority, the bias is clear. This also implies that policymakers no longer think the output sacrifice required to tame supply-driven inflation will be very high.

Even as the RBI crawls toward liquidity normalization, worsening inflation realities imply that a hike is likely in June. The next two quarters are also likely to see inflation exceed 6 per cent, which could pressure the RBI to act sooner than later. Overall, FY23 could see rates go up by 100 bps. The terminal rate may be a tad higher than 5.25 per cent, with the RBI now showing its intent to keep real rates neutral over the medium term.