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Govt favours minimal rate hike as officials meet

Govt favours minimal rate hike as officials meet
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First Published: Fri, Apr 16 2010. 05 33 PM IST
Updated: Fri, Apr 16 2010. 05 33 PM IST
New Delhi: The chief of the Reserve Bank of India (RBI) met with the finance minister on Friday ahead of the bank’s monetary policy review on 20 April, as the government signalled it favoured a minimal hike in rates because it believes inflation is peaking.
Government officials spoke out against raising rates ahead of the bank’s past two quarterly meetings for fear of choking off recovery, but have toned down their rhetoric ahead of next week’s meeting as growth surges and inflation remains high.
Friday’s meeting is part of the RBI’s customary pre-monetary policy consultation with the finance ministry seen as crucial for reconciling their divergent outlooks on inflation.
The RBI is independent from government, but the two institutions traditionally try to bring their economic outlooks into alignment ahead of major decisions. However, the ultimate authority for monetary policy lies with the central bank.
Signalling what many see as a dovish outlook on inflation from a growth-focused government, the finance ministry’s chief economic adviser said on Friday inflation would not climb further.
“I think actually we’ve peaked. Inflation’s still got to remain high for a while but on a downward trajectory from now on,” Kaushik Basu, the adviser, said.
The central bank has been hawkish in its tone on inflation, and Basu’s comment was seen by some analysts as a message that the government was tackling high prices and there was no need for a steep hike in rates.
“I think the RBI may well be inclined to even a 50 bps hike but the finance ministry will be comfortable with 25 bps. That is where I think the discussions are happening,” said N Bhanumurthy, economist with Delhi-based think-tank NIPFP.
The RBI raised the cash reserve ratio (CRR) for banks by a more-than-expected 75 bps in January and followed it with a between-meeting surprise 25 bps point increase in the key repo and reverse repo rates in March.
Bond and swap markets have priced in an at least 25 basis point rate rise and an increase in the cash reserve requirements for banks that could help drain liquidity further to contain rising demand-side inflation pressures.
”The pro-growth stance probably trumps the anti-inflation stance at the moment in terms of policy action,” said Philip Wyatt, an economist at UBS in Hong Kong.
Political Issue
But inflation remains a hot-button political issue that has helped invigorate the opposition, and the government is keen to stop opposition barbs from eroding its electoral support after it won a fresh five-year term last year.
Rising prices have sparked opposition-backed street protests and made the government reluctant to push through reforms such as relaxing fuel and farm price controls.
The government faces a special parliamentary vote on high prices in the ongoing budget session. If it loses the vote it has to resign, although there is little risk of it losing power anytime soon. No date has yet been set for the vote.
Government officials feel lower-than-forecast headline inflation for March -- which at 9.9% was still its highest since October 2008 -- allows the central bank to limit the extent of tightening.
But there are worries that any rise in fuel prices to cut the government subsidy burden could put further upward pressure on prices.
Also, top weather officials have predicted a normal monsoon this year, adding to concerns that it will fuel its own demand cycle thus stoking inflationary pressures even if it brings relief to food prices.
For the central bank, inflation in March at 9.9% is already above its end-March projection of 8.5%.
A Reuters survey showed most of the 20 economists polled predicted a rate hike next week: roughly two-thirds expecting rate hikes predicted 25 basis point increases and one-third foresaw 50 basis point hikes.
Economists were divided on whether and how much the central bank would adjust the cash reserve ratio (CRR) for banks.
Fourteen of 20 expected an increase, with nine expecting a 25 basis point rise and five predicting a 50 basis point increase. The CRR is at 5.75% now.
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First Published: Fri, Apr 16 2010. 05 33 PM IST