The importance placed on and excitement around the January monetary policy review has gone up a notch following the Urjit Patel Committee recommendations regarding the overhaul of the monetary policy framework. Earlier, markets were tracking the three conditions outlined by the RBI Governor in the December policy to build their expectations around the rate decision. At that time, the Governor had said that RBI will hike rates in the January policy (or before) if the following three conditions are not met:
*a significant reduction in the headline CPI,
* fall in core-CPI and,
* core WPI falling as well.
The December inflation prints (released in January) gave a mixed picture around these conditions and while the markets were busy in the guessing game, the Urjit Patel Committee recommendations have further added to the confusion on what RBI could do on January 28.
First, let us take stock of what is happening on inflation. Headline CPI in the December print (9.9%) is now marginally below the October print (10.1%). The cyclone Phailin effect, which took the November CPI up to 11.2%, has faded out. Vegetable prices have dropped 18% m-o-m and we expect further drop in the January print. The fall in the headline inflation print is no doubt significant and, with a visible downward trend in the near-term, RBI is likely to believe that the disinflationary process is on. However, the core prints on CPI and WPI appear to be sticky. In fact, there is a marginal uptick in the December print, which goes against the preconditions set by RBI. These opposite trends in the inflation data provide the opportunity to RBI to either pause or hike. In our view, the optically larger fall in headline CPI is likely to nudge RBI towards a pause—giving the slow growth process some more time to bring down core inflation.
However, the Urjit Patel committee report on the proposed monetary policy framework has brought us at an inflexion point on monetary policy although there is uncertainty around how many of the proposals will be accepted by RBI in this policy itself. It has no doubt recommended the most significant changes to the policy framework since 1998, when India transitioned from money supply targeting to a multiple indicator approach (with interest rates adopted as a monetary policy tool). The proposed flexible inflation-targeting framework switches the monetary policy decision from being discretionary to