World over, the central banks probably have never had such a pivotal role to play. Be it our RBI or USA’s Federal Reserve or Europe’s ECB. It is widely believed that what they do, the fiscal policies they usher in, will decide the trajectory ahead. For most countries, it’s the growth trajectory but for us, its always about the inflation path.
Today evening, the European Central Bank (ECB) left its interest rates unchanged across the eurozone. It is already at a record low of 0%; so there is really nothing below this that they could have gone down to. Yes, already impose a negative interest rate -0.5% on commercial banks deposits left in its vault - to encourage lending. It also maintained its 0.25% rate on its main refinancing operations - short-term loans to commercial banks.
Giving its guidance, the ECB reiterated that rates will remain where they are so some time to come. And because ECB also looks at the inflation, it said, “ key ECB interest rates will remain at their present or lower levels until it has seen the inflation outlook robustly converge to a level sufficiently close to, but below, 2% within its projection horizon.”
The ECB also said that it was continuing with its QE at €20bn per month - buying government and corporate bonds with newly printed money. This buying, the ECB says will help offset the downward impact of the pandemic on the projected path of inflation.
One question being asked all over is whether pursuit of inflation for central banks is the way ahead or should the focus now change to growth?
Getting the eye off inflation is risky. If all these inflation-targeting central banks face a situation of low inflation unlike us, they fear that it might get into deflationary territory. And a negative inflation means asset value will go down, much below their debts thus increasing their mountain of debt in real terms. Also in a scenario where demand as such is dead, this might lead to people as well as businesses to further delay consumption, perpetuating the lower growth cycle, pushing the country into recessionary mode.
For India, the RBI’s hawk-like eye on inflation is very crucial as if it decides to concentrate on growth, the rupee, which remained strong despite the pandemic, would have otherwise gone into a spiraling fall into the abyss. And the fact that the rupee has not plummeted, with RBI intervening where required is one of the prime reasons why FIIs continue to invest in India, despite the soaring cases and out-of-control fiscal deficit. The credibility of the RBI remains intact, the faith on this institution remains and that is the prime reason why India still figures on the FIIs radar. The day RBI starts pandering only to the Govt needs, we will turn into a banana republic.
There is absolutely no doubt that inflation should remain the sole guiding star for RBI; growth will happen and its decided by Govt policies, demand and supply situations. RBI cannot step into the Govt shoes and do what the Govt needs to do; who will then do what RBI has been doing all along? That happens, RBI will also become like many other institutions today – a mere puppet in the hands of the Govt.
Thus we can debate till the cows come home about growth or inflation but the hard truth is that inflation should always remain the focal point.
Ben Bernanke had said, “In a mature economy like India's, which is becoming modern and a financially-oriented economy, an independent central bank, responsible central bank, is really central to success.”
Let RBI remain what it is, standing tall with its autonomy.