Is rate hike by RBI only way to tame inflation?

The meeting of the monetary policy committee of the Reserve Bank of India (RBI) to decide on interest rates comes in the wake of turbulent times for the markets as expectation built up for a fresh round of increase in interest rates by the US Federal Reserve. Inflation is a problem that economies across the world are grappling with. There have been moves as part of efforts to tame inflation that is raging through most parts of the world as the system was flush with cash in the post-Covid period.Just when central banks began to suck out excess liquidity, the war in Ukraine started and pushed up prices of fuel, food and industrial commodities. It made investors across the world nervous, resulting in a rush to safety and causing global currencies to tumble.It was bad for Indian stock investors too, who are now looking at how RBI deals with the situation.In India, retail inflation is estimated at 7%, well above the government and RBI’s tolerance level of 6%. While the Indian central bank has increased rates by 140 basis points over the last four months, more hikes are in the offing as RBI has clearly stated the path.Times of India business editor Sidhartha was joined by the newspaper’s banking editor Mayur Shetty and markets editor Partha Sinha to understand what is in store for us. Excerpts from the conversation …India better off on inflation frontInflation is what is driving central bank action across the world, and it's an issue that companies and individuals are grappling with and as the Nestle CEO told the Times of India recently that India seems to be better off, how does India compare to some other countries on the inflation front? India is grappling with inflation like the rest of the world. But the situation in India is slightly different because we will not have the kind of wage inflation that they are seeing. And a large part of the inflation here is because of high oil and commodity prices. And the advantage that India has compared to the West is that the differential between policy rates and inflation rate is relatively small compared to the US. They have a long way to go to bring inflation under control, whereas in India we would be in positive zone if RBI hikes rates by a couple of percentage points.So India is relatively better off that way in inflation and it seemed to be kind of coming off earlier there in the West. ‘Carry trade’ a worry for IndiaIt has been a difficult period for stock markets and currency markets. A lot of people lost their wealth in terms of erosion of wealth and the currencies tumbled, whether it was in India, in the UK or Japan.In the light of developments in the global markets, the main problem faced by India is the confidence level of the Wall Street investors. If the US raises rates, the cost of borrowing would go up for those who borrow in US dollars and invest in emerging markets. People would withdraw money from emerging markets and would probably either pay back their money in the US or would invest there. This is called carry trade. So that is the main problem -- the US raising interest rates and as a result foreign Investors, foreign fund managers taking money out of India.We still have a positive side, the mutual funds and retail investors. They are still investing more than Rs 12,000 crore each month into Indian stocks and mainly in equities. That is a kind of cushion that we have. But there are a lot of uncertainties and people are now going into the risk of mode. How does weakening rupee affect Indians?What does the weakening of the rupee against the dollar mean for Indians, given that the way other currencies have moved?There are people who have children studying abroad in the US, some in the UK or in Canada or in Australia. What does a weaker rupee compared to the dollar mean and how does it compare with the other currencies? The obvious and immediate impact is of course that everything that we import becomes costlier. Most of our energy, oil, energy is imported. That's going to add to inflation, but that's going to be balanced by the fact that oil and other commodity prices have come down a bit. But at the same time other imports will become costly and we have got a huge import bill, we have a current account deficit.The impact for individual Indians would be mostly for those who are sending their children abroad for studies. Their fees would suddenly become very costly. Those who are planning foreign trips would find them much more expensive. They would spend more dollars to buy their foreign currency irrespective of which country they are travelling to since the dollar is the currency through which they have to purchase other exotic currencies.Software cos, remittances to gainThe positive side of that is that revenues of software companies will go up. They'll get more rupees for the same billing that they do.One of the other positives would be remittances. When people living abroad send money to their families, they would be getting more rupees for the same amount of foreign currency that is transferred to them. Going on a bargain-hunt in stock marketsGiven all this nervousness in the market and the expectation that this turbulence is going to continue for some more time, how should a retail investor, whether into shares directly or invested via mutual funds, how should respond to the current market situation? During these times of volatility and when the markets are going down sharply, the small and mid-caps fall more than the benchmark indices. It is also happens among blue chips.If you know if you are a stock market investor and if you have done your research well and if you know which of the stocks are good but are falling and available at a lower price, you can go on a bargain hunt. And on the mutual funds side, if you have a set financial plan in place, stick to it. Would RBI hike rates?While everyone is looking at what RBI and the monetary policy committee do, given that there has been an increase in inflation in India as well. What should RBI do with retail inflation inching up to 7% again? What kind of increase is expected, especially when some of the economic indicators point to a slowdown in activity in recent weeks? The RBI mandate under the amended RBI Act is to ensure that inflation remains within the target range and ensure that there are conditions for growth. But given that primary target is inflation, the RBI would do everything in its path to bring down the inflation rate and the only tool that the RBI has is to increase interest rate.This seems very likely it's widely expected that it will increase the interest rates by 50 basis points and that would bring down demand and hopefully bring down inflation. If RBI was expected to bring down inflation immediately -- within a quarter or six months -- given that the only tool that it has is interest rates, it would bring it down.It would like a sharper increase, but since it also has to focus on growth, it might go in for a soft landing by increasing interest rates gradually. And the other reason they need to increase interest rates is that once the US Federal Reserve has increased rates, the world has got no choice but to follow the Fed. Because given the globalized nature of fun flow, every time there is an increase in US interest rates, money starts moving to the US. And that creates an imbalance. And to bring back the balance, the other central banks have also had to raise rates.Audio production: Sahil Gupta