D. Subbarao | We will do everything to bring inflation under control

D. Subbarao | We will do everything to bring inflation under control

Mumbai: The Reserve Bank of India (RBI) will go all out to restrain demand pressures and bring inflation under control. In an interview with Mint, RBI governor D. Subbarao said inflation will indeed come down even though it may take a while and the central bank will do every thing possible to achieve this objective. “We need to bring it down in order to sustain our medium-term growth."

He also said the central bank wants the monetary transmission to work. This means money should become dearer following the rate hike, and banks should raise their loan and deposit rates. Edited excerpts:

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Finally, you have left your baby steps and taken a giant stride. Is it a tacit admission that RBI measures didn’t work?

No, I believe not. That would be an inappropriate inference. Last year domestic growth was gaining foothold, global situation was still uncertain, and there were lot of unknowns, and the drivers of inflation were different—largely driven by food.

You must also remember that policy rates had gone down to historically low levels. So, we could move them up gradually, and I believe thebaby-step approach was appropriate for last year. Now, in April 2011, growth is consolidated. There are certain uncertainties in global outlook, but some short-term risks that we saw last time around are not there this time.

Most importantly, the drivers of inflation have changed—from food to non-food and fuel due to demand pressures. So, we believe that a bigger step is now necessary. To infer that a baby-step approach was inappropriate would be incorrect.

In the short term, more than growth, your concern is inflation control. Your tolerance level for inflation is breached, but when will you show concern for growth?

I don’t think you can talk about growth and inflation numbers in isolation. We put growth projection at around 8%; it could go below or above depending on various factors—both domestic and international. I really cannot at this point say what precise number would trigger concern about growth, but historically we have had high growth with low inflation and I hope that’s where we are going to land.

When do you see the price pressure coming off?

We will look at non-food manufacturing inflation and the three-month seasonally adjusted number as well as the underlying momentum. There are other indicators such as credit offtake, imports, PMI (Purchasing Managers’ Index) data, but most important thing to look for is non-food manufacturing inflation, which was 7.1% in March.

You have made it clear that inflation will be 6% with an upward bias by March 2012 but 9% till September. Is it safe to assume that you are not yet through with your rate hiking cycle?

I cannot give any guidance on that beyond what I have said in the policy, which is that we will persevere with, our anti-inflationary stance, and I leave it to your interpretation.

The matrix of inflation got changed from food to non-food and manufacturing, and you couldn’t help bringing it down, but your inflation projection went terribly wrong. How did it happen?

First of all, there were known unknowns about crude prices, international prices of minerals, base metals, as there was a lot of international demand. The crude price rose both because of demand and supply concerns. That threw us off, for one.

Second, the adjustment on food inflation was much slower than what was expected in a year of normal monsoon—again because of structural food factors to which we are new.

I have been told by our staff that the inflation projections from December 2010 to February 2011 had underestimated the non-food manufacturing demand pressures, so that threw us off in the March projection. I am explaining all these just because you asked the question and not making a defence of this.

We need to certainly improve our forecasting ability, but I want you to understand also that the known unknowns acted up all together this time.

Don’t such instances dent the credibility of the central bank?

That’s the judgement you have to make. But we have to certainly try to improve our forecasting. I also want you to understand that there are certain factors beyond our control, and please just do not look at RBI but look at others as well. Of course, as a public institution, we have a greater obligation and responsibility of being credible.

The finance minister pegged the gross domestic product (GDP) growth figure for 2012 at 9% in his budget speech. The country’s central bank is talking about 8%. Is it usual to see such kind of divergence?

At a time of big uncertainty in the economic situation, I would believe that projections change. The finance ministry and the government had made some projections for budget purposes, and they were also, I believe, overtaken by events since then. The budget was in the end of February, and a lot of price developments happened in March and April.

Will the government too change its projection?

I don’t know about that. You must ask the government.

You seem to have shocked the market. The Sensex tanked and all rate-sensitive stocks were down. Is it because of the rate hike or your admission that you don’t care about growth?

I am not willing to interpret the stock market movement. That has a dynamic and logic of its own. I really cannot interpret that for your readership.

You are starting a single rate system—the repo rate at which RBI gives money to banks. To make this effective, you need to run the system in a continuous cash-deficit mode and you must have an impeccable liquidity forecast.

It certainly is challenging—projecting liquidity and managing it. Because there are variables beyond our control.

Will you auction excess government money kept with RBI for better liquidity management?

We’re working on that. We need to consult with the government for this. It was an urgent issue because the government’s cash balance (with RBI) was in surplus. Now some of the urgency is not there. But for the long term, we need to meet an understanding with the government, and we’re working on that.

Last week you released a discussion paper on savings bank (accounts). Your bias is very clear. It’s pretty evident that you want deregulation.

We are open-minded.

Does that mean that you may not go for deregulation?

It could be possible. I have told the bankers that do not read into today’s hike; the deregulation is a certainty down the road.

On the other hand, I would also want to say since you talked about a bias, interest rate on savings deposits is the only regulated interest rate, apart from interest rates on NRI (non-resident Indian) deposits. If the way forward is deregulation, then this needs to be deregulated at some point of time. So the motive for the bias perhaps is there. But I want to assure you that we’re open-minded.

Have you hiked the savings rate to protect savers from inflation?

Well, yes, because other deposit rates have since moved up. Interest rates and deposit rates have gone down and gone up. But this is one interest rate that got pegged at 3.5% since April 2003. Millions of middle-class and lower middle-class families depend on this as their source of income. We thought it’s fair and just that we make an adjustment.

What is the lesson that banks and consumers should take from your policy document?

I don’t know about lesson, but the message is that inflation will come down but slowly. High inflation is not inevitable. We need to bring it down in order to sustain our medium-term growth, and we will do all that is possible from the Reserve Bank to restrain demand pressures and bring inflation under control.

For the banks, I have no message. In fact, we would like the monetary transmission to work through the market system.

Which means you want them to hike their loan rates. What’s the sense that you got from them?

You must ask them. They will need some time to absorb this and react to it. But we would like monetary transmission to work in order for our policy to be effective.

Which means money must be made more expensive?

That’s correct.

Anything else?

We want banks to be safe and sound and lend for productive purposes. We want to be sure that there is no mis-pricing of risk.

And the cost of loans and deposits must go up?

Well, I’ve said that we want the monetary transmission to work.