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Raghuram Rajan: We can bring inflation within more tolerable limits
RBI governor Raghuram Rajan says interest rates may not move higher if inflation eases
Mumbai: Reserve Bank of India (RBI) governor Raghuram Rajan surprised the markets with a quarter percentage point hike in its policy rate as the Indian central bank set its sights on bringing consumer price index (CPI) to 7.5%-8.5% by March 2015. In an interaction with media after presenting the quarterly policy on Tuesday, Rajan said that interest rates may not move higher if inflation eases. “We have to bring inflation down for the consumer. It’s going to help growth,” Rajan said, reiterating his determination to bring down prices. Edited Excerpts:
Have you started adopting the Urjit Patel committee report? The government has said it can be premature to target CPI.
The Urjit Patel committee report is being studied and of course some of the recommendations require both the government and RBI to come on board, and as we proceed with those recommendations, we will have a dialogue with the government on those issues. As far as today’s action goes, we are taking a piece where the Urjit Patel committee has done substantial amount of work in charting a possible disinflationary path. It’s not directly related to targeting but we need to bring down inflation and there should be very little disagreement on that.
RBI has always been focused on both CPI and WPI (wholesale price index) but given the fact that CPI has stayed high for a considerable amount of time, we have to bring it down.
The Urjit Patel committee has given us a time-frame, which seems reasonable, in which we can bring it down. Over time, we have to figure out how we make the index better, but the fact that the index is not perfect doesn’t necessarily say that there is no problem. CPI inflation is too high, we need to bring it down.
The Patel committee has pointed out that getting down CPI to 4% is contingent upon the government finances getting into shape and also rationalizing the subsidies and administered prices.
I think that there has to be a dialogue between the government and the Reserve Bank on macro stability. It has two components—fiscal and monetary—and the two have to work hand in hand. I think that dialogue is working. We explain our side to the government and occasionally we tell them what they should be doing and they tell us what they think we should be doing and together we work in an appropriate balance.
I take heart from the fact that in recent times the increase in agriculture support prices, which has been a big factor in the price of agricultural commodities, is coming to an end and this will help the disinflationary process. We can continue to have dialogue in these kind of things.
Given the government’s fiscal road map, I don’t think we should say that monetary goals are unattainable. They are perfectly consistent with the government’s fiscal road map and if the government adheres to the road map, I don’t see why we can’t bring down inflation over time. Reaching 6% by 2016 given the government’s fiscal framework seems imminently feasible.
Will inflation targeting be the way to go?
I did not say we have accepted inflation targeting recommendation of the panel. We are looking at it. The Urjit Patel committee has recommended flexible medium-term inflation targeting. We will take a close look at the recommendations and will take up what we can do alone. We will take up with the government what needs the cooperation of the government. It’s premature to say that we move towards inflation targeting.
There is no question about the fact that we must bring inflation down. The best way for us to sustain growth in the medium term is to bring inflation down. There is really no trade-off between growth and inflation. That said, we are cognizant of the weak state of the economy and any disinflationary path must take that into account. The Urjit Patel committee has suggested a disinflationary path. Based on our models, we look like we should be able to reach the 8% objective by the end of the year and that’s what we are looking for.
We look at all components (of inflation). Core (inflation) tells us something about the second round effects. Even within core, there are some which we need to pay attention to like some aspects of services like education, which have been going up quite strongly.
You seem to be focusing only on CPI.
We have more confidence in CPI because we had a whole committee look at it and do more work on it. Let me say that we are very far from targeting CPI. All we are using it is a guide for the disinflationary process, saying that CPI is important and we have to bring CPI down. There are various indices of CPI which are telling the same message that CPI is too high.
You have raised rates despite inflation coming down.
The decision was close. Last time it was close but we chose to wait and this time it was close but we chose to act. Given that action needs to be taken, this time we saw that some of the noise created by vegetables was taken off but we still saw that some aspects of inflation were sticky and were not moving—that is suggesting that it will need a little more medicine.
I think at this point we have injected some medicine, 75 basis points hikes since September, and we have to watch to see how that medicine works along with the weak state of the economy as well as the stabilization of the rupee.
Recent numbers suggest the growth momentum has been lost. Still you have gone ahead and hiked the rates.
Juxtaposing growth versus inflation is a mistake that many people are doing, which is incorrect. If we cut policy rates right now, do you think banks will cut deposit rates? The deposit rate is high because inflation is high, the customer wants a real rate of return. If you cut policy rates, it’s not going to create an immediate reduction in the bank’s cost of funds and create immediate demand. We have to get away from the sense that there is magic to be done without bringing down inflation. Ultimately, the best way to create and sustain growth is by bringing down inflation.
The high vegetable price inflation cut into people’s budgets and they didn’t have money to spend on other things, so this notion somehow that inflation is irrelevant to demand and that somehow we can have strong demand without inflation has to be revisited.
With what we have done so far as well as the relative weak state of the economy plus the fact that we will see some effects of the stabilization of the exchange rate, we have confidence that we can bring inflation within more tolerable limits over the course of the year. If we can do that, it will give us some room on the monetary front which can then be passed through but first let’s fight the fight that needs to be fought.
The monetary policy document says further monetary tightening in the near term is not anticipated at this juncture. If inflation cools off, will we see easy money policy?
I think we need to create the environment for the recovery to take place and be strong, and inflation is part of that environment. On the issue of policy, I think what we want to do is wait and see how the steps we have taken play out into the inflationary environment. Once we get enough data, we can decide how the course of policy will move and if in fact disinflation is stronger than we anticipate right now, we will have more room to take action.
How well prepared are we now to face the external risks? Does the policy decision today (Tuesday) have to do with the sell-off in the emerging market currencies?
Over time what we decide to do is focus on getting the macro stability in India. The rest will follow. We should focus on getting the domestic environment a lot healthier. Some of that was reducing the current account deficit in the last few months but going forward, fiscal stabilization and monetary stabilization are part of getting macro stability and once we do that the foreign investors will come.
Yes, we are far better prepared than we were. We don’t want to be bolder but we can comfortably say that the current account deficit will be below 2.5% for 2013-14. We have built up (foreign exchange) reserves somewhat and also allowed the oil marketing companies to buy dollars to pay us back. If that process runs into difficulty, we can conclude the swaps in rupee terms.
Over the last month, we did attract a lot of short-term flows into the debt market and some of the volatility in the last couple of days has been created by these short term flows leaving. Over time, we have to figure out how much we want to expose ourselves to those relatively short-term flows but I am glad to say even during those big sell-offs in last July-August, long-term flows stayed with us.
I think those investors are worried about inflation and hence bringing down inflation is a way of assuaging those investors about the long-term future of the country and their investments. But the primary focus is not the investor or the markets, it is the Indian consumer.
We are better prepared to face the external sector volatility. I want to look through one or two days of volatility because I think there are some very volatile flows that have built up in the short term. I don’t think they are large and as they leave we will have less of them and we have enough in reserves and capacities to sustain those flows.
I take heart from the fact that our long-term flows have remained stable even during the most extreme volatility last year. Of course, we will remain very vigilant and do what is necessary but it would be hypothetical right now to contemplate what needs to be done.
Your policy action is hawkish but the guidance is dovish.
Urjit had a fantastic description. We are neither hawks nor doves, we are actually owls. The broader point is: Don’t try and put us into buckets, we are doing what is necessary for the economy. Last time around, we wanted to say we were vigilant but we were waiting for data and that meant we didn’t act but we needed to convey the signal that we were ready to act.
This time when the signals were met, we said what we are going to do and we did what we said. We said we would act if certain conditions were violated, those conditions were violated and therefore we acted. But we also acted because we thought that this was consistent with the broader plan of bringing down inflation and at this point we believe that from the perspective of growth that is the best thing that we can do. Of course, we think that if our plan works out that over time we will have room to cut interest rates.
No central bank ever binds itself tightly but the guidance we have given is that we are going to wait for more data and see the effects of our measures before taking further steps. We believe that based on our models and data we have now that the measures we have taken are enough to get us where we want to be over the course of the year.
Will RBI and central agencies share information regarding the currency note withdrawal?
Firstly, it is not intended to get at black money, tax evasion, etc. I am not saying those are good things but there are other instruments and those are issues which the government focuses on. This is a technical action in order to withdraw notes that have fewer security features than newer notes. So it’s an attempt to reduce the possibility of counterfeiting and give more reliable notes in the hands of the public.
If the public had to fear a tremendous amount of bureaucratic hurdles in putting their money back, or if we would involve the income-tax authorities, this process would be much less smoother.
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First Published:28 Jan 2014, 10:46 PM IST
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