Sucheta Dalal :All eyes on RBI: Balancing inflation and growth
Sucheta Dalal

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All eyes on RBI: Balancing inflation and growth  

April 19, 2010

That a rate hike is imminent is quite a no-brainer. However, the Reserve Bank of India (RBI) may have to weigh its options carefully before effecting the rate hike through tomorrow’s quarterly monetary policy review.

The over-bearing concern is likely to be the burgeoning inflation eating into the pockets of consumers. The wholesale price index-based inflation is hovering around the 10% mark, while food inflation is again inching upwards, nearing 18%. This coupled with the commodity and fuel price rises are beginning to add to the inflationary pressures.

An analyst from Anand Rathi confirmed that RBI is likely to raise the rates on account of near double-digit inflation. “We anticipate up to 50 basis points increase in the repo and reverse-repo rates. Although the consensus is that RBI will raise CRR also, we don’t expect that to happen as yet. If the CRR is hiked, it would benefit banks with a higher low-cost deposit rate. But we feel that RBI will not make any significant move in this area.”

Sachchidanand Shukla, chief economist, Enam Securities, believes that RBI will raise repo and reverse–repo rates by 25 bps each in view of the rising inflation.

Until now, the other key concern of the central bank was whether the economic recovery has taken firm root—and whether a rate hike would impede the recovery process. Signs of recovery are getting more and more visible.

The index of industrial production (IIP), a key indicator of growth, has witnessed double-digit growth for the past three months. The government is also confident of achieving GDP growth of 8.5% in the current financial year. Also, with credit off-take rising past 16%, companies too seem to be optimistic about growth prospects and are accessing credit for their expansion plans.
But there are still some voices cautioning that the recovery has not yet fully set in. They argue that is too early to take the recovery for granted and that a sharp hike in interest rates at this juncture would dampen the speed of recovery. With companies only just beginning to return to the projects table, high interest rates may make such projects unviable for those companies.

Our source from Anand Rathi confirmed, “Our belief is that while economic recovery will continue, it will not be sufficiently strong. From that perspective, we do not expect more than a 50bps hike for the entire year. The growth is not strong enough for tightening of rates beyond this level.”

Sachchidanand Shukla believes that the economic recovery is sufficiently strong. “Economic recovery in India is strong enough to sustain a hike in policy rates. But if one looks at the global scenario, it is still not well-established.”

As such, the RBI will face the dilemma as to what extent the policy rates should be tinkered with. For every argument favouring a sharp hike, there is another demanding a more moderate stance from the central bank.

The RBI’s decision in this regard will be a clear demonstration of the government’s optimism, or lack thereof, about the on-going recovery process. —
Sanket Dhanorkar


-- Sucheta Dalal