RBI needs to remain focused on inflation, says Rangarajan

RBI needs to remain focused on inflation, says Rangarajan

New Delhi: The Reserve Bank of India (RBI) should remain focused on curbing inflation and the government should increase diesel price and excise duty to reduce subsidies and boost revenue, C. Rangarajan, chairman of the Prime Minister’s economic advisory council, said on Thursday.

Interest rates are still a tad lower than they were before the 2008-09 economic slowdown, Rangarajan said at the annual Economic Editors’ Conference, indicating that he wants RBI to continue raising policy rates to fight inflation.

The RBI has increased policy rates 12 times since March last year to curb inflation. One basis point is one-hundredth of a percentage point.

The repo rate, or the rate at which the RBI lends to commercial banks, currently stands at 8.25%. The RBI is scheduled to undertake its mid-year monetary policy review on 25 October.

But there is growing concern that raising policy rates to tame inflation is hurting growth. Finance minister Pranab Mukherjee said so on Wednesday.

N.R. Bhanumurthy, professor at the National Institute of Public Finance and Policy, said RBI should focus on tackling inflation even at the cost of growth. “Otherwise, there could be a scenario of overheating."

He said he expects the central bank to give a “final shock" to the market and raise policy rates by 50 basis points. “Market factors in the small baby step policy rate hikes by the central bank. So such rate hikes fail to dampen inflationary expectation."

Bhanumurthy said a 50 basis points rate hike will take policy rates to the pre-slowdown level.

Rangarajan said industrial production is not hurt as much by interest rates as by other factors.

“Some of the areas where production has not picked up are not areas where interest rates are a major consideration," Rangarajan said. He said India needs to adjust diesel prices as international crude prices have been rising. “In the absence of the adjustment of diesel prices the oil marketing companies will be faced with huge under-recoveries and subsidies will have to be provided to them. So there is need to raise the prices of diesel."

He, however, added that the government should judiciously decide the time for increasing diesel price. “The appropriate time will be when inflation starts declining. We cannot wait for inflation to come down to manageable levels to raise diesel prices."

He said he expected inflation to come down to 7% by March next year. Headline inflation stood at 9.72% in September.

Rangarajan said the government should increase excise duty, which was lowered during the economic slowdown, in next year’s budget to boost revenue. General excise duty was reduced from 10% to 8% in the 2009-10 budget to boost economic activity. “We lowered the excise rate and it has not been brought back to the earlier level. Going ahead, I would suggest that the excise rates are raised to the pre-crisis level," he said.

The Prime Minister’s economic advisory committee (EAC), Rangarajan added, may have to revise downward its earlier growth projection of 8.2% for the year ending March 2012. “While projecting 8.2% of GDP (gross domestic product) growth, the EAC had factored in 3% of agriculture growth, industry growth of 7.1% and services growth of 10%... perhaps agriculture growth will be higher than what we had expected. But the industry growth rate would be lower than we expected and services growth rate would be more or less at the same level. We expect growth rate for the current year to be close to 8%," he said.

The Planning Commission has targeted an annual growth rate of 9% for the 12th Five-Year Plan, starting 2012-13.

Rangarajan cautioned that the economy should not be pushed beyond that mark as “it will have an impact on balance of payment and create strong inflationary pressure... Even if we grow at 8%, per capita GDP will rise from $1,600 at present to $8,000 by 2020, making India a middle income country."

Rangarajan said containing fiscal deficit may be difficult.

The government has targeted bringing fiscal deficit to 4.6% of the GDP in the current fiscal year, but the economic adviser said it may end a few basis points above the target.

He said the issue of opening up the retail sector to foreign direct investment is not related to the issue of taming food inflation.

“What is really required is for the distribution outlets is to have direct contact with the farming community," Rangarajan said. “This can be done if reasonably strong business units set up retail units across the country. The impact of that on inflation is not very certain."