India Rate Decision-Day Guide: Rajan’s Inflation Target in Focus

Indian central bank Governor Raghuram Rajan wants inflation no higher than 6 percent by January. His decision Tuesday hinges on whether he thinks he can do it while cutting rates for a fourth time this year.

When he last lowered the benchmark repurchase rate to 7.25 percent in June, Rajan’s strategy was to act early and then wait to see if threats to the target dissipate.

All but three of 42 economists surveyed by Bloomberg predict he’ll stay on hold this time because he doesn’t have enough data for comfort. Outliers say falling oil prices and better-than-expected monsoon rains means he can act now to spur flagging investment.

Central bank watchers will also look for Rajan’s views on a draft bill that would give the government control over monetary policy. Some officials in Prime Minister Narendra Modi’s administration have already distanced themselves from the proposal, which is open for public comments until Aug. 8.

Here’s what to look for in the policy statement, which will be released at 11 a.m. in Mumbai. Rajan typically holds a press briefing immediately afterward.

Monsoon and food

Rainfall since June 1 has been about 6 percent below average so far, on track to be better than originally forecast. Still, rising food costs pushed inflation to 5.4 percent in June, and the gauge for July will be published only after the rate review.

While food accounts for almost half of the consumer-price basket, the plunge in global commodities this year has also led to a record divergence between India’s two main inflation gauges.

Declines in commodity and wholesale prices show inflation can’t be a top concern at the moment, a finance ministry official who asked not to be identified by name said Monday.

“If food prices start easing sharply from September, in line with past trend, then hitting the 6 percent target will not be difficult,” Taimur Baig and Kaushik Das, economists at Deutsche Bank AG, said July 31. “But the food price outlook comes with a great degree of uncertainty, which is why we think the central bank will prefer to maintain a conservative stance at this stage.”

Global factors

While risks from rising oil prices and those surrounding Greece have abated, it’s still unclear how much money investors will pull out of emerging markets when the Federal Reserve starts raising interest rates, possibly as early as next month.

Rajan has said India is now better prepared to deal with the inevitable volatility, with foreign-exchange reserves near a record $355 billion. Even so, higher U.S. rates risk eroding the 3 percent carry return earned by dollar-based investors who bought rupee assets, the highest this year among 12 Asian currencies tracked by Bloomberg.

Rate guidance

If Rajan keeps rates on hold, economists will try to determine how open he is to a cut in the coming months.

As of last month, the median estimate of 17 economists in a separate survey saw Rajan keeping rates unchanged through September 2016. That contrasts with swap traders, who are pricing in the chance of a cut to 7 percent by the end of this year.

After reaching his 6 percent inflation goal by January, Rajan will look to bring the rate toward the midpoint of a 2-6 percent target agreed with the government earlier this year.

Monetary Policy Committee

A draft bill published by the Finance Ministry on July 24 proposed that the government would appoint four members to a seven-member monetary policy committee. The right to a veto was taken away from the RBI governor, leaving him with only a deciding vote in case of a tie.

That differed from the original bill, which had called for two central bank officials, three government appointees and two members picked jointly by the finance ministry and the central bank governor. A Rajan-backed panel last year had proposed a five-member MPC with no government appointees.

Rajiv Mehrishi, the top bureaucrat in the Finance Ministry, told reporters on Monday that the government isn’t attempting to curb the central bank’s powers and that the bill might change again. Rajan has yet to publicly comment.

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