A bustling vegetable market in Mumbai paints a vivid picture of the economic landscape in India. The Reserve Bank of India (RBI) maintains that the nation's economic slowdown is largely due to persistent inflation, which continues to be its foremost concern. — Reuters file

India's central bank is facing mounting political pressure to reduce interest rates as early as this week, following data that revealed growth was far weaker than anticipated. However, the RBI's unwavering focus on curbing inflation suggests that a rate cut is unlikely. The growth rate of Asia's third-largest economy plummeted to a seven-quarter low of 5.4% during the July-September period, as manufacturing and consumer spending weakened. These disappointing figures come on the heels of recent calls from ministers urging the RBI to lower rates, with some economists suggesting that this could bolster the case for an imminent rate cut. For now, the RBI is unlikely to be swayed by the data, arguing that the economic downturn is a result of stubborn inflation, which remains its top priority, thereby creating a growing rift with government officials who are more focused on growth.

“Elevated inflation makes a December rate cut unlikely, but there could be an explicit acknowledgment that growth also needs support,” said Samiran Chakraborty, chief economist at Citi, in a note. The central bank might contemplate a reduction in the cash reserve ratio in December as a move towards easing, although it is expected to maintain rates for the 11th consecutive meeting this week. ANZ and IDFC First Bank suggest that a 25-basis-point rate cut this week cannot be entirely ruled out. India's benchmark 10-year bond yield dropped 9 basis points to 6.71% following the data release, while one-year and five-year overnight index swap rates, key indicators for gauging policy expectations, eased by nearly 20 basis points.

Finance Minister Nirmala Sitharaman and Trade Minister Piyush Goyal have both publicly called for lower interest rates in recent weeks. “High interest rates for an extended period are harming consumption and investments,” said a government official who spoke on condition of anonymity. “The RBI should take steps to lower rates in the next policy review.” The bank should prioritize growth, while the government would implement supply-side measures to ease food prices in the coming months, the official added. With inflation driven by a few food items, another government source, speaking on condition of anonymity, suggested that the central bank should now consider reducing interest rates. However, the central bank views the weaker growth as a consequence of high inflation and believes a rate cut is not justified, according to a person familiar with its thinking.

“The RBI has to adhere to what the Act mandates. The Act requires RBI to prioritize price stability and then consider growth,” said the person, who spoke on condition of anonymity. The RBI is tasked with keeping inflation within a band of 2% to 6%, with a medium-term target of 4%. Inflation rose to 6.2% in October, with food inflation at 10.9%, according to the latest data. The debate on interest rates centers on the divergence between headline and core inflation. Core inflation, which excludes volatile food and energy prices, averaged 3.3% between April to October 2024, compared to 4.9% in the same period in 2023. However, headline inflation has been driven by volatility in food prices.

“Supply disruptions due to heavy rains in major producing states contributed to price pressures in tomatoes, onions, and potatoes, while elevated global prices drove up oil and fat inflation,” the finance ministry stated. “A bumper kharif harvest is expected to lower food inflation in the coming months,” it added in its latest economic review, referring to summer-sown crops. The central bank fears that prolonged higher food prices will lead to broader inflationary pressures. “The second-round effects are already evident. Food inflation has now spread to processed foods,” said the person familiar with the central bank’s thinking. “We are now in a low-growth, high-inflation scenario, which the RBI was desperately trying to avoid.” In its review this week, the bank is expected to revise its forecast for growth of 7.2% for the current financial year. This reflects an acknowledgment that monetary policy has been too tight for too long, according to another official familiar with the government’s thinking.

In response, the government, facing criticism for a high tax burden on middle-class consumers, may take steps to boost consumption in the next budget in February, another official said, as it considers tax relief for salaried individuals.

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