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The subtext of what governor D. Subbarao said

The subtext of what governor D. Subbarao said
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First Published: Tue, Jul 26 2011. 05 43 PM IST
Updated: Tue, Jul 26 2011. 05 43 PM IST
Reserve Bank of India (RBI) governor D. Subbarao has been unusually blunt in his monetary policy statement released on Tuesday, when the Indian central bank took the markets by surprise by raising the key policy rate by an unexpected 50 basis points.
The following three statements stand out, to which we have been added our own comments.
• Statement One: “The economy’s ability to grow rapidly for any length of time without provoking inflation is dependent on implementing policies, with corresponding resource allocations, which will allow the supply of various products and services to keep pace with demand.”
Comment: Subbarao has clearly indicated that the RBI cannot fight the battle against high inflation on its own, especially when the government has not done enough to increase the productive capacity of the Indian economy. In other words, the government in New Delhi will have to get into the act through polices to encourage investment, especially in agriculture and infrastructure.
• Statement Two: “There are signs that growth is beginning to moderate, particularly in respect of some interest sensitive sectors. However, there is no evidence of a sharp or broad-based slowdown as yet.”
Comment: This is perhaps a signal that the Indian central bank will be convinced that its tighter monetary policy is working only when the economic slowdown is broad based, and not concentrated in a few sectors like automobiles as it is right now. If that is indeed the case, then we are headed into a prolonged growth recession.
• Statement Three: “Going forward, the monetary policy stance will depend on the evolving inflation trajectory, which, in turn, will be determined by trends in domestic growth and global commodity prices. A change in stance will be motivated by signs of a sustainable downturn in inflation.”
Comment: This guidance suggests that the RBI will stop increasing interest rates only if inflation comes down on a sustained basis. It is not bothered about the growth trajectory right now, however bitterly banks and business groups complain.
Going by the implict message in these three statements, the rate-tightening cycle is not near its end.
(Niranjan Rajadhyaksha is executive editor of Mint)
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First Published: Tue, Jul 26 2011. 05 43 PM IST