The key challenge being faced by the Reserve Bank of India (RBI) was managing the economic recovery process while anchoring inflationary expectations, Deepak Mohanty, executive director at the central bank said today.
“Here is the dilemma. Growth is still fragile and at the same time you have liquidity and inflation, though largely driven by supply side... We need to be careful. In the mid-term policy, we signaled the first phase of exit (from accommodative monetary policy),” Mohanty said at a conference on South Asian financial systems.
In the mid-term review of its annual monetary policy, the RBI had last month announced withdrawal of some special liquidity measures, signaling the first phase of monetary tightening.
He said the central bank had tried to “normalise” the level of liquidity, which rose due to a loose monetary policy adopted to boost local demand.
“What we have done is that we have tried to lower the excess liquidity that we compounded into the system,” he said.
“We don’t think the first phase of exit will affect growth. Liquidity is still comfortable and RBI is still observing Rs 1 lakh crore at its daily reverse repo tender.”
Since October 2008, RBI has cut repo and reverse repo rates by 425 bps each and cash reserve ratio by 400 bps to infuse liquidity and spur demand in the wake of the economic slowdown.
Mohanty said excess liquidity in the banking system was likely to affect inflationary expectations, and might spill over to asset prices.
He said the central bank has infused actual and potential liquidity to the tune of 11 per cent of the country’s gross domestic product into the banking system as part of the stimulus.
He said India was one of the few countries to have signalled the need to have a timeline for exit.
Mohanty said the central bank’s decision not to announce the October-March open market operation (OMO) calendar for gilts was part of the stimulus-exit strategy.
In the RBI’s mid-term review of the monetary policy, Governor D Subbarao had said OMO might be used as an instrument to take out liquidity. “There is no OMO calendar for the remaining fiscal. This is one of the ways to exit.”
RBI had started reverse auctions under OMO from February 19 to smoothen the government’s large borrowing plan for the current fiscal, which is pegged at Rs 4.51 lakh crore.
Commenting on the government’s borrowing programme, Mohanty said, RBI was initially concerned about its massive size. “Public debt was an issue...The borrowing for 2009-10 is substantially high. We were sceptical about it. Again, we did not compromise. People were talking about monetisation, but we did not go down that path.”
He said government has already completed 82 per cent of the total borrowing for the year, and the remaining is likely to be completed smoothly.
Inflation, credit
Commenting on the central bank’s estimate for end March headline inflation at 6.5 per cent with an upside risk, Mohanty said, there was a risk to the downside as well.
“There are risks on both sides. If oil prices come down sharply, inflation could go down. If rabi crop is good and food prices come down, and there could be a seasonal adjustment to vegetable prices, we could see inflation coming down.”
RBI had scaled up its end March inflation estimate to 6.5 per cent, with an upward bias from 5.5 per cent earlier.
Asked about low credit offtake growth in the economy, he said, though aggregate demand was still sluggish, there are expectations of a rise by March.
“Credit growth should improve in the busy season. Corporates are still a bit risk averse, and there are also alternate sources of funding available.”
In the October mid-term review of the monetary policy, RBI had scaled down its credit growth estimate to 18 per cent from 20 per cent.
According to RBI data, as on October 23, banks’ loans expanded just 9.55 per cent on year, while incremental credit growth since April was 3.40 per cent.
