RBI: Urgent need for new investments

By lowering rates again, the central bank has put onus of improving growth on govt

 

After presenting a hawkish Macro and Monetary Developments report on Monday, the central bank delivered a more measured third quarter review of Monetary Policy. Trying to keep all constituents happy the RBI governor announced a 0.25% cut in repo rate and also reduced Cash Reserve Ratio (CRR) by 25 basis points which would infuse Rs 18,000 crore of liquidity in the system.

 

Governor Subbarao's reluctance to reduce interest rate has all along been high inflation rates, which would go out of control if rates are reduced further. Though the governor said that inflation has peaked out, he expects the moderation to be muted going into the next fiscal. This is because correction of under-pricing of administered items is still incomplete and food inflation remains high. Inflation projection for March 2013 has however, been revised lower from 7.5% to 6.8%.

RBI’s stance clearly states that days of 4-5% inflation are unlikely in the near future. Given this scenario expecting sharp rates cuts, as expected by sections of analysts can be ruled out. This comes out clearly from the governor’s statement where he says “This (inflation) provides space, albeit limited, for monetary policy to give greater emphasis to growth risks.”

With some progress on the battle with inflation, RBI seems to be having a tough time dealing with growth. The central bank has further reduced India’s GDP expectation to 5.5% for the current fiscal. With fewer options in his armory governor is categorical in saying “What the economy needs most of all and most urgently is new investment. This will step up currently flagging aggregate demand and also ease the supply constraints, so that existing capacity is fully utilised and new capacity is built up.”

Subbaro has clearly passed the buck to the government to create an environment which encourages investment, both from within the country and from outside. Government’s focus currently is more on attracting global capital rather than improving domestic sentiment. Here the governor points out to the precarious Current Account Deficit (CAD) scenario which has touched an all-time high and is unlikely to come down soon. In fact he has warned that ability to attract foreign exchange will be hit if the economy slows down further. Financing the CAD with risky and volatile flows makes the economic more vulnerable to shocks.

Though the market might have got the rate reduction it was expecting for, the road ahead continues to be challenging, and perhaps at the current levels risks outweigh rewards unless the government pulls up its socks.