Report card

The Reserve Bank of India's Annual Report for 2004-05 is largely a reiteration of the central bank's prognosis of the economy, much of which has already been communicated in its annual monetary policy statement and, most recently, in its quarterly review of monetary policy.

For instance, the RBI has kept its forecast for real GDP growth at 7 per cent for the current fiscal, which was the figure predicted in its Annual Policy statement in April and its quarterly review last month. There is also no change in the bank's annual inflation target of between 5 and 5.5 per cent.

Nevertheless, the RBI has also signalled its concern on many issues. For example, it points out that India is an inefficient user of energy, but energy-saving measures are not helped by the government's reluctance to pass on the increase in international crude prices to consumers.

The central bank points to the strain that this policy puts on the government's finances, a strain that could eventually turn into a "binding constraint".

Apart from that, the report also says that hiking oil prices "will also enable more efficient use of oil in the economy, especially in view of the fact that the rise in international oil prices appears to have a large permanent component".

Given this "large permanent component" in the price of crude, the RBI is mindful of the inflationary risks, and the report talks of a "credible commitment of policy to fight inflation ... critical to stop translation of higher oil prices into wage-price spirals".

Taken in conjunction with the central bank's analysis that monetary conditions have remained easy so far this fiscal because of an injection of primary liquidity, and given its fears that pricing pressures in the economy could "get complicated by continuing overhang of excess liquidity", the central bank seems to be clearly signalling its readiness to hike interest rates once again.

It has also pointed out that banks will need large amounts of capital to be compliant with Basel 2, and that the process needs careful monitoring. Even on the growth front, the report says that the excessive rains in July have led to some uncertainty regarding the eventual kharif outcome.

Of course, it's in the nature of central banks to be cautious, and the report is far from being a litany of woes. It says, for instance, that "the optimistic investment climate, broadly stable bank lending rates, corporate profitability and the buoyancy in the stock markets suggest that the industrial sector outlook is likely to remain buoyant in 2005-06".

The services sector too is expected to maintain its growth momentum. On the external front, although higher oil and non-oil imports will widen the trade deficit, that's not something that can't be taken care of by normal capital inflows.

In fact, the RBI believes that the external situation is currently so favourable that it's the right time to move to a single uniform rate of 10 per cent for imports, and simplifying customs procedures in line with global best practices.

The report says that the current external environment, including the level of the foreign exchange reserves, enables such a move to be made with little or no downside risks.

In short, the central bank believes that while the economy is doing well at present, there is much that needs to be done by way of policies that ensure the continuation of robust growth.