RBI to tighten grip as inflation weighs heavy

Economists feel Subbarao must go for an aggressive hike today as high prices threaten to derail growth

    THE Reserve Bank of India (RBI) has hinted at further monetary tightening, saying containing inflation has become the dominant policy objective in the current environment.
    "Going forward, waning risks to the robust growth outlook and visible upside risks to the inflation outlook would shape the stance of monetary policy in the near term," the central bank said in its latest quarterly report card—Macro and Monetary Developments. "Persistence of inflation at a high level and widening current account deficit are the two major policy concerns at the present juncture," it said, adding lower inflation is essential for sustainable high growth.
    This makes a strong case for tighter monetary policy measures. The market expects the central bank to further raise the benchmark policy rate—repo rate. This is the rate at which the central bank lends funds to banks against securities. "I think RBI could raise policy rates by a quarter per cent. There is an outside chance that it would be half a per cent," said Jahangir Aziz, chief India economist, JPMorgan.
    Madan Sabnavis, chief economist at Care Ratings, said, "RBI is likely to raise interest rates by 50 basis points on January 25. Food inflation is extremely high and the government has given all the signs that on its part, it has done all it can to bring down prices and now the onus is on RBI to do its bit."
    "Higher interest rates will affect credit growth. If taking an anti-inflationary stance is the objective, then raising interest rates by 25 basis points would be too weak a measure. RBI should go in for a CRR cut, but it's unlikely to. RBI has been fairly aggressive in as far as taming demand-side inflation is concerned. Deposits have grown by 9.5% in the last eight months," he added.
    RBI has, however, not succeeded in taming inflation despite raising rates six times last year. It says sensitivity of inflation to past monetary policy measures has remained subdued due to the very nature of the inflation process.
    Aziz said, "It was neither large enough nor was sufficiently aggressive. They needed to do more earlier. RBI has to hike rates aggressively if it is to bring down inflation."
    In its assessment of inflation, though the central bank has spoken at length on the supply-side constraints, it has after a long time acknowledged that high food and fuel inflation pose a risk of spillover to core inflation through higher input costs and inflation expectations.
    Its various forward-looking surveys also indicate receding downside risks to growth in the near term. The economy is expected to clock a higher growth than earlier estimated as professional economists have pegged growth forecast for FY11 at 8.7%, against 8.5% reported in the previous survey. A survey of over 1,500 firms by RBI shows though they are optimistic about the outlook for the current quarter ending March '11, there is a slight moderation in their optimism.