RBI holds rates as inflation, growth outlook worsens

Lowering rates will aggravate inflationary impulses without necessarily stimulating growth: Subbarao

The Reserve Bank of India (RBI) left interest rates unchanged for the second time since June, in line with expectations, while cutting its growth forecast and lifting its inflation outlook as economic conditions deteriorate.

The RBI kept its policy repo rate unchanged at 8% and left the cash reserve ratio (CRR) for banks at 4.75%. CRR is the share of deposits banks must keep with the RBI.

"In the current circumstances, lowering policy rates will only aggravate inflationary impulses without necessarily stimulating growth," RBI Governor D Subbarao wrote in the monetary policy review, adding that the RBI's primary focus remains inflation control.

Headline wholesale price index inflation remained above 7% in June, while India's consumer price index was 10%. Growth in India slowed to a nine year low of 5.3% in the March quarter.

The RBI also cut its economic growth outlook for FY13 to 6.5%, from the 7.3% assumption made in April, putting its outlook closer to that of many private economists.

It also raised its headline inflation projection for March 2013 to 7%, from 6.5% in its April review.

"Headline inflation has persisted even as demand has moderated and the pricing power of corporates weakened," Subbarao wrote.

"Non-food manufactured products inflation has also not declined to the extent warranted by the growth moderation. This reflects severe supply constraints and entrenchment of inflation expectations," he wrote.

The RBI has repeatedly called on the government to take steps to revive investment and cut populist spending that bloats its fiscal deficit, and on Tuesday said an immediate cut in fuel and fertilser subsidies is needed if the government is to reach its target of cutting subsidies to under 2% of GDP.

India's fiscal deficit for the fiscal year that ended in March was 5.76% of GDP, and many economists say its aim to trim that to 5.1% in the current fiscal looks optimistic.

The RBI sought to assure markets that it will continue to respond to tight liquidity conditions in the banking sector, including through purchases of government bonds. It reduced the minimum requirement for banks' government bond holdings to 23% of deposits, from 24% previously, in a move to free up liquidity.