Growth vs inflation: Walking the razor's edge

Despite the growth slowdown, a rate cut-cycle is unlikely to start anytime soon

- M GOVINDA RAO

After a spectacular average gross domestic product (GDP) growth rate of 8 per cent over the last three years, the economy slowed to its weakest growth in seven quarters, registering just 5.4 per cent in the second quarter. While an economic slowdown during the quarter was anticipated, its magnitude exceeded market expectations. Simultaneously, the inflation rate surged past the tolerance level of 6 per cent in October, driven by elevated food prices.

The continued elevation in food prices has started spilling over into core prices. Despite the nudge from political quarters to start the rate reduction cycle, not surprisingly, the Monetary Policy Committee (MPC) focused on its headline inflation target and maintained the status quo on the policy rate. The slow growth in the second quarter raises the question of whether this is merely a blip or structural factors are at play, given the steady decline in the growth rate over successive quarters. With growth in the first half of the current fiscal estimated at just about 6 per cent, and despite expectations of a revival in the next two quarters, the Reserve Bank of India (RBI) has revised its forecast downward to 6.6 per cent from the earlier estimate of 7.2 per cent.

The slowing growth and elevated inflation have forced the MPC to continue walking on a razor's edge. Arresting the decelerating growth warrants starting the rate-reduction cycle and there are nudges in some quarters that the RBI should switch its target from "headline" to "core" inflation.