Challenges Faced by Reserve Bank of India Amidst Falling Rupee and Inflation Expectations

75
2
Challenges Faced by Reserve Bank of India Amidst Falling Rupee and Inflation Expectations

The Reserve Bank of India is currently grappling with the adverse effects of the plunging value of the Indian rupee against the US dollar, which recently hit a historic low. This depreciation poses a significant challenge for the Monetary Policy Committee (MPC) as it could potentially lead to imported inflation, particularly affecting items such as food products like pulses and edible oils, as well as crude oil imports. While the rupee's devaluation has seen a positive impact on exports, it has also made imports more costly, raising concerns about the overall economic balance.

Analysts and officials are closely monitoring the situation, with a keen eye on how the weakening rupee could exacerbate core inflation alongside the recent rise in global crude oil prices. Experts suggest that for every 5% depreciation in the rupee, headline inflation could see an increase of around 0.26 percentage points, while core inflation might rise by approximately 0.1 percentage point. The easing of retail inflation to a four-month low of 5.22% in December has provided some respite, yet the MPC, under the leadership of the new RBI Governor Sanjay Malhotra, is expected to deliberate on a possible 25 basis point cut in the repo rate during their upcoming meeting in early February.

Despite the hopes for a rate cut to counterbalance the economic challenges, differing opinions exist among financial institutions. While Nomura predicts a series of cumulative rate cuts in 2025 and advocates for a repo rate cut in February to support growth amidst inflation concerns, Standard Chartered has revised its forecasts for USD-INR exchange rates and postponed its projection for significant repo rate cuts to the second quarter of the year. The divergence in views reflects the complexity of the current economic scenario, where policy decisions need to navigate through various factors impacting the economy's stability and growth trajectory.