The Reserve Bank of India (RBI) seems to be in no hurry to oblige banks and other stakeholders on a pause in the rate increase cycle. Contrary to market predictions that tomorrow’s widely expected 25 basis points (bps) increase in the key policy rate will be the last in a rather long rate rise season, the central bank on Monday gave enough hints of the continuation of its tight monetary policy.
In its quarterly report on macroeconomic and monetary developments, released a day before the first quarter monetary policy review, RBI said, “High inflation warrants continued tight monetary policy, despite rising risks to growth.”
Inflationary pressures were likely to stay, if not intensify, during the second quarter due to factors such as higher government spending and wages, full pass-through of the oil price increase and revival of the rally in commodity prices, RBI said.
Some moderation was expected only in the later part of the year, it added. Headline inflation as measured by the Wholesale Price Index, remains above 9 per cent (RBI’s comfort zone is 4-4.5 per cent), despite a 425 bps increase in policy rates since March 2010, one of the sharpest monetary tightening in the world. RBI, however, expects economic growth to stay around the trend level of 8 per cent in 2011-12, despite some deceleration, due to strong consumption demand.
| PRESSURE POINTS |
| * Full pass-through of oil price rise not completed |
| * Near-normal monsoon may not ease pressure on food inflation |
| * Rise in MSP puts pressure on inflation |
| * Near-term trend in core inflation critical |
| * Overshooting fiscal deficit target a possibility, weakens monetary policy effectiveness |
| * Food inflation declines but concern stays |
“Going forward, there is a possibility of some softening of industrial growth as a result of implied input costs,” RBI said, adding that investments and corporate intentions to invest, which dipped in the second half of 2010-11, were yet to improve.
According to RBI, inflation has become generalised and core inflation is a key concern. The inflation in non-food manufactured products, or core inflation, has remained over 7 per cent. RBI’s comfort zone is 4 per cent. Textiles, chemicals and metals continue to contribute the most to the increase in prices of manufactured non-food products. “The near-term trend in non-food manufacturing inflation will be critical in shaping the future of macroeconomics dynamics,” RBI said. RBI also warned that despite a normal monsoon, prices might stay high due to revised minimum support prices (MSPs) “The recent increase in MSPs of key agricultural commodities … could have some inflationary impact,” RBI said, adding, “The upward revision in MSPs can lead to an increase in rural wages, which could lead to higher purchasing power and demand. Wage increases push up the cost of farm products. Food inflation had fallen in recent weeks, but the decline was not enough.”
On recent easing of global commodity prices, RBI said it was not clear if this was temporary. At home, complete pass-through of the fuel price increase of June-end was yet to happen and the full impact would be felt in the July inflation figure. Commenting that overshooting of the fiscal deficit target was a possibility, RBI said its expansionary impact on demand could lower the effectiveness of the monetary policy.
