RBI warns on inflation risk; rate rise seen

RBI warns on inflation risk; rate rise seen

Mumbai: The Reserve Bank of India (RBI) said inflation may stay high for longer than earlier anticipated due to a rise in global commodities prices and domestic supply pressures that have pushed up food prices.

Monday’s report appeared to reinforce the likelihood that the RBI will lift policy interest rates by at least 25 basis points at its quarterly review on Tuesday. The central bank also said downside risks to growth had receded.

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“Upside risks to inflation have increased, suggesting the need for sustained anti-inflationary policy focus," the RBI said in a report a day before its quarterly monetary policy review.

“Since a lower inflation regime is essential for sustainable high growth, containing inflation becomes the dominant policy objective in the current environment," the report said.

After raising rates six times since March to tame inflation, the central bank paused in December but indicated at the time that further rate hikes were possible, with inflation remaining well above its comfort zone.

“As a result of newer factors and increased risks, the inflation trajectory is likely to show some persistence and moderate only gradually," Monday’s report said.

The central bank also called for measures to address structural drivers of inflation, which include inefficiencies in the agricultural sector.

A sharp rise in food prices, a key driver of inflation in India, has been putting upward pressure on broader prices.

The wholesale price index, the most widely watched gauge of prices in India, rose 8.43% in December from a year earlier, compared with 7.48% in November and well above the RBI’s March-end projection of 5.5%.

The RBI’s perceived comfort zone for inflation is 5-6% in the short term and 3-4% in the medium term.

Investors are pricing in more rate increases, with the overnight indexed swap curve flattening this month, reflecting an increase in rate hike expectations. The most traded 8.13%, 2022 bond yield has risen 17 basis points in January to 8.23%.

The RBI’s repo rate, at which it lends to banks, stands at 6.25% and the reverse repo rate, at which it borrows from banks, at 5.25%.

A survey of forecasters conducted by the RBI increased its 2010/11 fiscal year growth projection for India marginally to 8.7%, from 8.5% in the previous forecast, Monday’s RBI report said.

“Though the overall global outlook suggests some moderation in growth in both advanced and emerging economies in 2011, downside risks to India’s growth momentum have receded considerably," the report said.