Reserve Bank of India’s (RBI) six-member Monetary Policy Committee (MPC) has kept the repo rate unchanged at 6.5 percent for the ninth time

Why did the MPC decide to keep the policy rate unchanged?

• Food inflation: RBI has been raising concerns over elevated food inflation over the past many months, as it could derail the disinflation path. 
• Headline inflation: As measured by year-on-year (y-o-y) changes in the all-India consumer price index (CPI), edged up to 5.1% in June from 4.8% in May. 
  • The increase in the inflation rate is attributed to food inflation, which firmed up to 8.4% in June compared to 7.9% in the previous month.
  • Food component of retail inflation remains stubborn. Food inflation contributed around 70 per cent of the overall retail inflation.
    • Retail inflation, also known as Consumer Price Index (CPI) inflation, tracks the change in retail prices of goods and services which households purchase for their daily consumption

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About Monetary Policy Committee (MPC)

• Reserve Bank of India Act, 1934 (RBI Act) has been amended by the Finance Act, 2016  to provide for a statutory and institutionalised framework for a MPC. 
• Under Section 45ZB of the amended RBI Act, 1934: The central government is empowered to constitute a six-member MPC.
  • Composition: It includes three central bank officials and three external members appointed by the government. 
    • Three central bank officials: RBI Governor Shaktikanta Das(Chairperson), Deputy Governor Michael Patra and Executive Director Rajiv Ranjan. 
    • Reconstitution & Reappointment: The MPC is reconstituted every four years  and members are not eligible for reappointment. 
• Function: The MPC is entrusted with the task of fixing the benchmark policy rate (repo rate) required to contain inflation within the specified target level. 
• Inflation Targets: If the average inflation is more than the upper tolerance level of 4% + 2%, that is, 6%, or less than the lower tolerance level of 4% – 2%, that is, 2%, for any three consecutive quarters, it would mean a failure to achieve the inflation target.
• Failure to Meet the Target: If RBI fails to meet the inflation target, it shall set out in a report to the Central Government
  • The reasons for failure to achieve the inflation target
  • Remedial actions proposed to be taken by RBI
  • An estimate of the time-period within which the inflation target shall be achieved pursuant to timely implementation of proposed remedial actions.
• Quorum: There shall be four Members, at least one of whom shall be the Governor and, in his absence, the Deputy Governor, who is the Member of the MPC.
• Decision Making: The MPC takes decisions based on a majority vote. 
  • In case of a tie: RBI governor will have the second or casting vote.
• Binding Decision: The decision of the MPC would be binding on the RBI.

What is Repo Rate?

• The repo rate is the interest rate at which the central bank lends money to commercial banks for a short period, typically one day. 
• Repo: The term “repo” stands for “repurchase agreement,” which means that the borrowing bank agrees to repurchase the securities it has sold to the central bank at a later date, often the next day, at a slightly higher price
• Difference is the Interest: The difference between the selling price and repurchase price represents the interest earned by the central bank on the transaction.
• Objectives of Repo Rate
  • Controlling Money Supply: By adjusting the repo rate, the central bank can influence the liquidity in the financial system. 
    • When the economy needs a stimulus, the central bank may reduce the repo rate, making borrowing cheaper for commercial banks. This, in turn, encourages banks to borrow more funds, leading to increased lending and spending in the economy.
  • Managing Inflation: One of the primary objectives of a central bank is to maintain price stability and control inflation. 
    • By tweaking the repo rate, the central bank can influence the borrowing and spending behavior of businesses and consumers. 
    • A higher repo rate makes borrowing expensive, leading to reduced spending, which can help combat inflationary pressures. Conversely, a lower repo rate encourages borrowing and spending, boosting economic activity.
  • Ensuring Financial Stability: The repo rate also plays a vital role in maintaining the stability of financial markets. 
    • During times of financial stress or liquidity crunch, the central bank can reduce the repo rate to provide liquidity to banks, helping them meet their short-term funding requirements.
• Impact on the Economy
  • Interest Rates: The repo rate directly influences the interest rates in the economy. 
    • A change in the repo rate leads to a corresponding change in lending and deposit rates offered by commercial banks. 
    • Lower repo rates lead to reduced borrowing costs, stimulating investments and consumption, while higher repo rates tend to discourage borrowing and slow down economic activity.
  • Investment and Consumption: Lower repo rates encourage businesses to borrow at cheaper rates for investments, leading to increased economic activity. 
    • Similarly, individuals may find it more attractive to borrow for big-ticket purchases like homes and automobiles, thereby boosting consumption.
  • Exchange Rates: Changes in the repo rate can influence exchange rates. 
    • Lower rates may lead to a depreciation of the domestic currency as investors seek higher returns in other currencies. 
    • Conversely, higher rates can attract foreign capital, leading to an appreciation of the domestic currency.

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RBI Monetary Policy – Meeting Outcome

• Repo rate unchanged: Reserve Bank of India’s (RBI) six-member Monetary Policy Committee (MPC) has kept the repo rate unchanged at 6.5 per cent for the ninth time amid risks from higher food inflation.
  • Consequently, the standing deposit facility (SDF) rate remains at 6.25 per cent, while the marginal standing facility (MSF) rate and the bank rate remain at 6.75 per cent
• Inflation Forecast: The MPC left its inflation forecast for this fiscal year (FY25) unchanged at 4.5 per cent, even amid caution on food price trajectory that may hurt core inflation and intensifying geopolitical tensions which poses threat to any comfort on crude prices easing to multi-month lows.
• GDP growth Forecast: The MPC continues to expect Indian economy to grow at 7.2 per cent in FY25, even as it moderated outlook for the first quarter
• RBI MPC on domestic growth: Domestic growth has ‘held up well’ due to steady urban consumption and ‘improving’ rural consumption. 
  • Based on this the MPC has decided for the monetary policy to ‘stay the course’ and keep a vigil on the inflation trajectory.
• Withdrawal of accommodation : The RBI MPC has also decided to keep its stance of ‘withdrawal of accommodation’ unchanged with a majority of 4-2.
  • Withdrawal of accommodation means reducing the money supply in the system which will rein in inflation. 
  • This was to ensure that inflation aligned with the four per cent target while supporting growth.
• RBI’s CPI projection: Core inflation has been moderated to a ‘historic low’ in May and June, with food inflation contributing to 75 percent of inflation in these two months. 
  • Food inflation makes up 46 percent of weight in the Consumer Price Index (CPI) basket. 

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The RBI’s intention in keeping rates unchanged is to ensure a stable interest rate environment and price stability in order to achieve sustained growth. While central banks in countries like Canada, Europe, and England have opted for rate cuts, the US Federal Reserve has chosen to keep its policy rate unchanged in its latest meeting.

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