Of an Atlantic decoupling and elephants in the room

As expected, the Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI) stood  pat on both interest rates and stance during its April review meeting.

While it is increasingly evident that the global rate hike cycle is coming to an end, the moves of global central banks hereafter are going to be asynchronous, unlike the coordinated cuts in response to the Covid-19 pandemic and largely in-step hikes thereafter to tackle inflation.

The United States (US) Federal Reserve could skip rate cuts in its June policy because of a higher-than-expected inflation print for March and strong momentum in economic growth.

On the other hand, the European Central Bank, and many other peers, may not do so given relatively weak growth in their jurisdictions.

The upshot? A likely decoupling across the Atlantic.

S&P Global expects central banks in Latin American emerging markets, having already implemented rate cuts, to continue with this strategy through this year; central banks in Asian emerging markets will likely start cutting rates in the second half.

The world is in a state of uncertainty with the ongoing geopolitical shifts, compounded by rising debt. Monetary policy across nations is largely driven by domestic considerations, but in an interconnected world, central banks cannot afford to overlook these potentially disruptive developments.

One monetary policy lesson for central banks in the post-pandemic world is not to ignore supply shocks, particularly when demand is strong. Major central banks are already paying the price for treating supply shocks as having only a transitory impact on inflation and missing the sustained inflation surge following the pandemic.

Despite forecasting moderation in growth and inflation for fiscal 2025, the RBI remains cautious about declaring an early victory. The International Monetary Fund recently advised central banks to stay vigilant during the last leg of disinflation.

The MPC's stance reflects these concerns. Although India's inflation is now localized to food, in a stronger-than-expected growth environment, the RBI is using available policy space to keep interest rates elevated and liquidity tight.

Shaktikanta Das, the RBI Governor, had said after the review that "strong growth prospects provide the RBI policy space to remain focused on inflation and ensure its descent to the target of 4%."

The India Meteorological Department (IMD) and private weather agency Skymet have forecast above-normal rains for 2024, which augurs well for mitigating food inflation. This elephant may just go back to the forest.

But another one - crude oil price - seems to be returning. The escalation of geopolitical uncertainties has pushed it closer to $90 per barrel. If prices go higher and remain elevated, our expectation of a rate cut during the next policy review in June could be belied.

Central banks are maintaining flexibility in their approach in responding to the evolving situation, and the RBI has been ahead of the curve in this regard.