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RBI set to hike rate again; no change in anti-inflation stance

RBI set to hike rate again; no change in anti-inflation stance
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First Published: Tue, Jul 26 2011. 12 21 AM IST
Mumbai: India’s central bank is expected to continue with its aggressive monetary stance and raise its policy rate yet again to tame persistently high inflation, if its review of the macro-economic and monetary developments—released a day ahead of its first quarter review of monetary policy—is anything to go by.
The macro-economic review, released on Monday after market hours, said inflation continues to be a threat even though it acknowledged moderation in economic growth in 2011-12.
Stating that taming inflation remains an “unfinished task” as price pressures persist, it said “policy will have to preserve the broad thrust on tight monetary stance until there is credible evidence of inflation trending close to a level within” the central bank’s comfort zone.
“Near-term upside risks to inflation remain significant. Price pressures are expected to persist through Q2 (second quarter July-September) as well and then moderate towards the later part of 2011-12,” it said.
The Reserve Bank of India (RBI) has been tightening its policy since the beginning of 2010, raising its key policy rate by a total of 425 basis points (bps) through ten rate hikes.
One basis point is one-hundredth of a percentage point.
Monday’s review did not indicate a change in the stance as yet.
“Taming inflation warrants continuation of anti-inflationary monetary stance. Notwithstanding the slowdown in growth, high inflation requires continued anti-inflationary bias with a close watch and responsiveness to new information,” RBI said in the review.
Economists said the language of the review indicates that there is unlikely to be any let up in RBI hikes soon.
RBI said that the price situation that deteriorated since December 2010 is showing no signs of improving in the near term.
“Inflation is being driven by both cost-push and demand-side factors. Food inflation has declined. However, near-normal monsoon may not ease pressure on food inflation further due to increases in wage costs and support prices,” RBI said.
Samiran Chakraborty, regional head of research India, at Standard Chartered Bank, said expectations that RBI will be a little bit benign in hiking rates have been hit after the macro review.
“Clearly that’s not the case. There is going to be no let up in rate hikes and even though they acknowledge that there are downside risks to growth, they are not worried,” he said.
But Shubhada Rao, chief economist at Yes Bank Ltd, said RBI’s acknowledgement that domestic economic growth has slowed could indicate that the rate hike cycle may be near its end.
“Inflation remains the focus, but the fact that core inflation momentum is showing signs of slowing down indicates that RBI is coming to the end of its rate hiking cycle,” she said.
A. Prasanna, chief economist at ICICI Securities Primary Dealership Ltd, also said that RBI is reaching a level where it can afford to wait and watch to see how the previous rate tightening transmits through the economy, and also take stock of the increased global uncertainties.
RBI has acknowledged that “downside risks to growth have increased” but has stuck to its forecast of 8% economic growth in 2011-12, the same as in its annual policy review in May.
“Growth showed some moderation during Q1 (April-June) of 2011-12. These were visible from deceleration in IIP (index of industrial production) during April-May 2011 and in consumption of cement, steel and automobiles during Q1 of 2011-12,” RBI said.
IIP has decelerated to a growth of 5.8% in April and further to 5.6% in May, down from a rapid 13% growth in April 2010 and 15% growth in March 2010 respectively.
The review predicts a further softening in industrial growth as a result of implied input costs.
The effects of slower growth has also been seen in car sales, which grew at the slowest pace in June, in two years. During the month, India’s top three car makers, which account for two-thirds of domestic sales, reported a 4.5% drop in sales volumes.
The review is released amid intensified uncertainties on global economic recovery and sovereign debt problems in Greece, and more importantly, in the US, even as commodity prices remain high, complicating the situation for India.
In a note dated 22 July, Indranil Pan, chief economist at Kotak Mahindra Bank Ltd, said the recent European Union (EU) package for Greece may stabilize global commodity prices, increasing inflation risks in India.
RBI also said that the rising inflation in advanced economies puts global recovery at risk. “Global inflation is rising rapidly prompting debate over how much longer advanced economies can defer an exit from an excessively accommodative monetary policy,” RBI said.
Manufacturing inflation, also known as core inflation, is essentially driven by demand and makes up the non-food basket of the Wholesale Price Index, and is most watched by the RBI.
Rao of Yes Bank expects RBI to pause interest rate hikes after a 25 bps hike on Tuesday, mainly because of a slower growth in the demand-driven core manufacturing inflation. However, Standard Chartered Bank’s Chakraborty said that the clue to what RBI will really do in the medium-term will depend on the language used in the monetary policy review on Tuesday.
“We will get more clues on Tuesday because the macro review is done by the research team, which is different from the people that do the actual policy,” he said.
The central bank has acknowledged that investment demand has slowed even as private consumption demand remains strong.
“Corporate sales growth remains robust but profits are moderating due to higher costs. Despite deceleration, private consumption demand continues to be strong,” RBI said.
Tushar Poddar and Vishal Vaibhaw, Mumbai-based economists at Goldman Sachs Group Inc., said RBI will raise its policy rate by a quarter percentage point to 7.75% at the policy review. “We continue to expect the RBI to hike by another 25 bps after 26 July in the remainder of 2011, with the next hike likely by October... Inflation and inflation expectations remain at levels so far above the RBI’s preferred target that the central bank would want to err on the side of having done too much rather than too little in its fight against inflation.”
Saugata Bhattacharya, an economist at Axis Bank Ltd, said RBI will raise its benchmark rate by a quarter percentage point to 7.75%. “Our sense is that we are very near the peak of the tightening cycle. We expect a 25-basis point increase and a hawkish tone in the statement, but an emphasis on global conditions determining policy ahead will be a de facto signal of a pause in rate hikes.”
“Inflation pressures are still rising,’’ Abheek Barua, New Delhi-based chief economist at HDFC Bank Ltd, said before the report. “A rate hike is almost certain.”
Bloomberg contributed to this story.
joel.r@livemint.com
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First Published: Tue, Jul 26 2011. 12 21 AM IST
More Topics: India | RBI | Monsoon | Inflation | Wage Costs |