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Business News/ Politics / News/  Inflation bigger threat than slowdown for RBI

Inflation bigger threat than slowdown for RBI

Inflation bigger threat than slowdown forRBI


The Reserve Bank of India’s (RBI) third quarter review of macroeconomic and monetary developments, released on Monday, a day ahead of the central bank’s quarterly review of monetary policy, did not rule out a global economic slowdown of a modest nature, but there was no indication that the bank would ease its policy to fight the impact of the slowdown in the country.

Going by RBI’s review of economic and monetary developments, the chances of a rate cut, as widely expected by a section of the market, are slim.

The review talks about “potential inflational pressures" arising from “commodity price rise, volatile oil markets and impact of likely stronger foreign exchange inflows" into the emerging market economies. But no one is sure as yet on the stance of RBI governor Y.V. Reddy as he has a habit of surprising the market.

According to the macroeconomic review, the wholesale price index-based inflation in India has remained below 4% since mid-August 2007, in part due to moderation in the prices of some food articles and manufactured products. In the first week of January, wholesale inflation was ruling at 3.8%. This is well below RBI’s comfort zone of 5%, but the central bank said the inflation rate is “suppressed" because it doesn’t take into account last year’s surge in crude oil prices.

“Pass-through of higher international oil prices to domestic prices remains incomplete," RBI said. According to the central bank, “elevated international food prices pose potential inflationary pressures in the period ahead."

The central bank’s concerns over inflation and rising crude oil prices are also reflected in the declining business confidence of Indian corporations.

RBI’s latest industrial outlook survey, a part of the review released on Monday, shows that the business expectations index for October-December declined by 2.5% and that for the period January-March 2008 declined by 4.7% over the previous quarters. This was on account of various factors, including the appreciation of local currency against the dollar, hardening of interest rates, the rising cost of raw materials and global uncertainties.

The review said the money and credit markets in India have remained “relatively insulated" from international financial market developments and the central bank continued to maintain “enhanced vigilance" to respond appropriately to “uncertainties in global financial conditions".

It also reiterated its known stance of ensuring “financial stability" during a period of “heightened uncertainties" and maintaining the momentum of high growth and “price stability".

Even though RBI has not made clear its preference between growth and price stability, A. Prasanna, vice-president of ICICI Securities Primary Dealership Ltd, a firm that buys and sells government bonds, says RBI might cut short-term rates by a quarter percentage in its policy review on Tuesday. However, Rajeev Malik, executive director of JP Morgan Chase Bank NA, in Singapore, says the central bank may prefer to wait to cut its policy rate. Tushar Poddar, vice-president, Asia Economic Research of Goldman Sachs, also says RBI will cut its rate after inflation is “decisively under control".

RBI started raising its policy rate in 2004 and between October 2004 and now, it has raised its short-term reverse repo rate, or the rate at which the central bank absorbs liquidity, from 4.75% to 6%. The repo rate, or the rate at which RBI injects liquidity, has gone up from 6.25% to 7.75% since October 2005. RBI has also raised banks’ cash reserve ratio, or CRR—the proportion of money they have to keep with the central bank—by 2 percentage points to 7.5% in the past one year to tighten liquidity in the system.

As a result of these tightening measures, RBI has been able to moderate non-food credit close to the policy projection of 24-25% after it grew at 30% or more for three years in a row. Areas of high growth such as personal loans, housing loans and loans to commercial real estate have declined, the RBI review said.

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Published: 29 Jan 2008, 12:08 AM IST
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