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RBI would have to up the cost of money: Crisil

RBI would have to up the cost of money: Crisil
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First Published: Mon, Jul 28 2008. 02 04 PM IST

Dharmakirti Joshi, Director and Principal Economist, Crisil Limited
Dharmakirti Joshi, Director and Principal Economist, Crisil Limited
Updated: Mon, Jul 28 2008. 02 04 PM IST
Mumbai: During the last five months, not only has inflation fuelled by a supply side shock from global commodity, oil and to some extent food prices, consistently stayed above the RBI’s comfort level of 5.5%, but also scaled a 13-year high of 11.91%.
The recent depreciation of the Rupee has further aggravated this shock. Despite the tight monetary stance of the RBI since 2005, money supply currently at close to 20% has exceeded the RBI’s annual target of about 17%.
The pressure on domestic inflation from the surge in global commodity, food and oil prices cannot be addressed directly by monetary tightening alone. The supply side shock, however, can translate into second round cascading effects if the monetary situation remains easy.
Moreover, the RBI had expressed concern that the spike in oil and commodity prices is not a temporary phenomenon. The RBI’s recent measure, perceived by many to be a rather strong move, of a repo rate hike (50 bps) and CRR hike (50 bps) was aimed at ensuring that demand side stresses do not further pressurise inflation.
Dharmakirti Joshi, Director and Principal Economist, Crisil Limited
Monetary tightening becomes particularly important in view of the magnitude of the supply side shock and its expected persistence going forward.
Given that inflation is way above the RBI’s comfort band and expected to stay at double digits for some more months, the RBI’s objective would be ensure that money supply remains within its specified target.
This coupled with the RBI’s observation that that despite some moderation in the economic activity, aggregate demand pressures were still active, is expected to result in the RBI further tightening its monetary stance.
We are in a macro scenario where the effects of past monetary tightening are still coming through and an unfavourable external scenario is likely to moderate growth further. CRISIL expects GDP growth to moderate to 7.8% in 2008-09 from 9% in the preceding year.
The IIP data reveals that interest sensitive segments such as consumer durables are slowing down.
Despite this, the RBI would have to raise the cost of money (through a repo rate hike) and reduce its availability (through a CRR hike) to check the second round effects of strong and persistent supply side shock to prices. CRISIL expects a CRR hike of 50 basis points and repo rate hike of 25 basis points on 29 July.
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First Published: Mon, Jul 28 2008. 02 04 PM IST
More Topics: Policy Expectations | Crisil | RBI | Inflation | CRR |