Mumbai: India’s central bank is expected to raise interest rates by another 25-50 basis points for the remainder of 2008 as it grapples with inflationary pressures, before softening rates early next year, economists said.
It has raised its lending rate by 125 basis points in the first eight months of 2008.
But slowing growth, easing commodity prices and an unfavourable global environment, which has made it difficult for Indian companies to raise funds overseas, may force the Reserve Bank of India (RBI) to start cutting rates early next year.
The economy expanded at an annual pace of 7.9% in the June quarter, its slowest in 3 years, data on Friday showed. But the central bank warned there seemed to be no let-up in demand pressures and said its policy would remain tight.
Robert Prior-Wandesforde, economist at HSBC, expects the central bank to raise its lending rate by 50 basis points and banks’ cash reserve requirements by 75 basis points to counter an inflation-busting 21% salary increase for federal workers.
“It remains focussed on inflation and its anxiety will not have been helped by the sizeable rise in public sector pay announced by the government a couple of weeks ago,” he said.
Last month, the government recommended salary increases for central government workers costing Rs125.6 billion ($2.8 billion) for 2008-09, and back pay increases of up to Rs180.6 billion to January 2006.
Annual rate of wholesale price inflation, the most widely watched barometer of prices in India, eased in mid-August but held above 12%, much above the central bank’s target of close to 7% by end-March 2009.
HSBC expects average inflation in 2008-09 at 11.9% and 10.3% in 2008.
Citigroup’s Rohini Malkani and Anuskha Shah expect inflation to remain in double-digits in the coming months due to base effects and higher oil prices, as falling food prices will only start showing up in headline numbers in 2009.
“Given the broad-based nature of inflation, we expect the RBI to raise policy rates using a combination of repo/CRR at least once more this year,” Citigroup analysts wrote in a recent note.
The central bank has raised banks’ reserve requirements by 200 basis points in 2007 and a further 150 basis points in 2008.
Fresh capital investments
Citigroup says tight monetary conditions indicate fresh capital investments will drop below 10% in 2008-09 — a five-year low — and full-year growth to clock in 7.5%.
“With slower growth and easing inflation, we expect the RBI to embark on a rate-cutting cycle from April 2009 onwards and do not rule out an earlier move, if growth decelerates more sharply than we expect,” said Sonal Varma, economist at Lehman Brothers.
Apart from slowing growth having a calming impact on inflation, easing global oil prices will push prices lower.
Oil has fallen from record peaks of $147 per barrel in mid-July and was trading around $116 a barrel on Monday. Lehman expects oil to fall to $90 per barrel by early 2009.