RBI likely to raise inflation target

Most economists see a 25-basis-point rise in rates.

The Reserve Bank of India (RBI) is certain to increase its inflation target in the third quarter review of the monetary policy next week.

Most economists agree the March-end inflation rate will be way above the central bank’s target of 5.5 per cent. “The December WPI (Wholesale Price Index) numbers suggest that headline inflation and especially core prices remained high. There are upside risks to our end-FY11 inflation target of 6.5 per cent, which is above the Reserve Bank of India’s forecast of 5.5 per cent. We think RBI will have to raise its inflation forecast shortly,” said Tushar Poddar and Vishal Vaibhaw of Goldman Sachs in a research report.
 

CRYSTAL GAZING
Name	Inflation estimate	January rate rise expected
Citi	7-7.5% by March	25 bps
Bank of America Merrill Lynch	6% by April-May	25 bps
ICICI Securities	7.5% by March	25 bps

Going forward, Goldman says, the inflation trajectory will depend of primary article prices, though high inflationary expectation and rising commodity prices may continue to exert upward pressure.

With food prices unlikely to moderate soon, the country may see March-end headline inflation at eight per cent.

“The stickiness in food prices means headline inflation could stay around eight per cent in the current quarter. Even in the best case scenario of primary articles’ prices reverting to November levels, March headline inflation may still print 7.5 per cent, compared to RBI’s estimate of 5.5 per cent,” ICICI Securities said.

Despite inflation seen much above RBI’s target, economists see a 25-basis point rise in key policy rates in the January 25 review. “The RBI should hike rates by 25 bps on January 25 to contain inflation expectations. If inflation abates, as we expect, they will likely pause till the summer before resuming tightening in (the second half of 2011-12),” said a research note by Bank of America Merrill Lynch.

Though a 25-bp rise is prescribed, keeping in mind the growth scenario, analysts emphasise the need to maintain a hawkish tone to contain inflationary expectations and for RBI to stop infusing liquidity. During the mid-quarter review in December, the RBI announced buyback of government bonds through open market operations (OMO), aimed to infuse Rs 48,000 crore of liquidity in the cash-starved system.

“As part of maintaining an anti-inflationary stance, and to ensure consistency of message we expect RBI to cease carrying out liquidity infusion measures forthwith: in plain English, RBI should immediately stop conducting OMO purchases,” ICICI Securities said.