India’s largest bank, the State Bank of India (SBI) has said that the Reserve Bank of India (RBI) is likely to raise the interest rate in June and August policy and will take it to the pre-pandemic level of 5.15 per cent by August.
The RBI only recently increased the repo rate by 40 basis points (bps) from 4 per cent to 4.4 per cent. Consequently, several banks and lending institutions have now increased their home loan and deposit rates. The repo rate is the rate at which the RBI lends to banks and other lending institutions.
Many experts have said that the RBI hiked the repo rate to tackle inflation.
“However, the important challenge facing the central bank remains whether inflation will tread down meaningfully, if war-related disruptions do not subside quickly. In particular, as retail loans are benchmarked to an external rate (mostly to RBI’s repo rate) with quarterly reset clause, the interest rate on loans benchmarked to repo rate will increase directly with the increase in repo rate,” the SBI said in its Ecowrap report.
“The RBI may have to use a shorter window to address inflationary concerns given the realpolitik challenges in the not-so distant horizon. We must thus support the RBI in its endeavour to quell inflation through hikes in interest rates. A higher interest rate will be also positive for the financial system, as risks will get repriced. Currently, the rate hike cycle has begun, and now the bank lending will increase according to the adequate risk pricing and demand. Interestingly, retail personal loans have grown at a scorching pace of 23.1 per cent in FY22 with an interest rate that is much higher than home loan rates, which are external benchmark-based lending rate (EBLR)-linked rates,” the report added.
The report further said that the Russia-Ukraine War has contributed to 59 per cent of the rise in inflation in India.
“Using February as the base case (the beginning of the Ukraine and Russia conflict), our study reveals that because of the war alone, food and beverages (assuming that vegetable price increase was mostly because of seasonal factors, that are largely domestic) and fuel and light and transport contributed 52 per cent of the increase in overall inflation since February; if we also add the impact of input costs particularly on the FMCG sector, thus adding the contribution of personal care and effects, the total impact at all-India level comes to 59 per cent, purely because of war,” the report said.
The report said that the inflation as measured by the consumer price index (CPI) rose to an eight-year high to 7.79 per cent in April 2022 as against 6.95 per cent in the previous month, and 4.23 per cent in April 21 due to significant increase in vegetable and fuel prices.
The report said that inflation would continue for a while, and it is unlikely to correct anytime soon.
The report further said that while in the rural areas, the impact has been disproportionately higher for food prices, in the urban areas, it has been disproportionately higher because of the fuel price, which also affected transportation costs.
“We did a dipstick study to understand the exclusive impact of war on inflation trajectory in both the rural and urban areas,” the report added.