Raghuram Rajan's Final Policy Review Is Also His Last Chance To Curb Prices

The govt has yet to name Rajan's successor

09/08/2016 8:43 AM IST | Updated 10/08/2016 11:50 AM IST
Danish Siddiqui / Reuters
Reserve Bank of India (RBI) Governor Raghuram Rajan

With less than a month to go on the job, Indian central bank governor Raghuram Rajan can do little more than offer an honest outlook on inflation and advice to his successor when he reviews policy for the last time on Tuesday.

Consumer-price gains reached a 22-month high of 5.77 percent in June, leaving Rajan with little room to lower borrowing costs given a target for a 5 percent pace by March. He will keep the benchmark repurchase rate at 6.5 percent, according to 27 of 29 economists in a Bloomberg survey. Two see a cut to 6.25 percent.

Rajan's impending exit, along with the formation of a new rate-setting panel, limits the actionability of any forward guidance Tuesday. Still, investors will look for his assessment of how recent policy changes will impact the world's fastest-growing big economy, including a pay increase for government employees and a landmark national sales tax.

Here's what to look for in the policy statement, scheduled for release at 11 a.m. in Mumbai. Rajan typically holds a press briefing immediately afterward.

'Lame Duck'

The government has yet to name Rajan's successor almost two months since he surprised India by announcing a return to academia at the end of his term, a move that followed criticism of his policy decisions from a prominent member of Prime Minister Narendra Modi's party. Inflation-hawk Rajan is likely to reiterate the importance of fighting some of the fastest price gains in Asia.

Investors are also waiting for details on a new monetary policy committee that will give India a rate-setting structure similar to the Federal Reserve or Bank of England. Currently the governor is the sole decision maker on interest rates, so the panel's members would become crucial to forecasting.

"The impending change in RBI governorship renders the upcoming August policy a lame duck one," Abhishek Upadhyay and Prasanna Ananthasubramanian, analysts at ICICI Securities Primary Dealership Ltd. in Mumbai, wrote on Aug. 4. The formation of an MPC makes the picture "cloudier still," they wrote.

One-Time Pain

Even so, the views of Rajan, a former International Monetary Fund chief economist, on how recent policy measures will affect prices offer value to investors.

One measure is a $13 billion pay increase for government employees, which took effect this quarter. Private-sector economists also say that a landmark goods-and-services tax known as GST -- which cleared its biggest legislative hurdle this month -- will stoke inflation. Modi aims to implement the tax from April 1, 2017.

"While we acknowledge that the inflationary impact of GST will be one-off in nature, we also note the persistence of other one-offs which can put pressure on the inflation trajectory in the medium term," in particular the pay increase, Deutsche Bank AG's Kaushik Das and Taimur Baig wrote on Aug. 5. The most crucial component -- an as-yet unapproved housing allowance -- risks spurring housing inflation by as much as 0.5 percentage point, they wrote.

An Impossible Target?

Stronger price pressures put the inflation target at risk. Rajan's predecessor, Duvvuri Subbarao, said in an interview last month that bringing consumer price gains down from the current pace "is going to be significantly more challenging" than the previous task of lowering it from about 8 percent.

Rajan has been reluctant to address the path to hitting an ultimate 4 percent inflation target, preferring to focus on the 5 percent goal for March.

Realizing the 4 percent mark on a sustained basis is a "tough ask" that would require the government to remove bottlenecks in agriculture and infrastructure, Nomura Holdings Inc. economists Sonal Varma and Neha Saraf wrote on Aug. 5. "This is still a work-in-progress and may be tough to achieve within five years."

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