RBI to hike policy rates to combat inflation

Hinting at a hike in key policy rates to contain price rise, the Reserve Bank today warned that high inflation, driven by rising commodity and crude prices, poses a threat to the economic growth.

Another round of hike in key rates is likely to push further interest rates upwards, making loans dearer.

Ahead of its annual credit policy, the Reserve Bank of India (RBI) also said the government's inability to raise oil prices in line with increase in the international prices poses a "significant medium-term risk" to the economy.

"Pass-through of global commodity prices, especially oil, has been as yet incomplete and constitute a significant medium-term risk," the central bank said in its report on Macroeconomic and Monetary Developments in FY11 released on the eve of its annual policy.

The RBI, according to experts, may raise its key policy rates by 25 basis points tomorrow to tame rising prices.

RBI's analysis also that GDP growth is likely to mirror the trend in the past fiscal, though many downside risks have emerged.

Forecasting higher core inflation in the first half, the RBI report said headline inflation may moderate in the second half but could still be above comfort level, a signal that more monetary policy measures are likely tomorrow.

"Persistence of high inflation warrants continuation of anti-inflationary monetary stance to sustain the growth momentum over the medium term," it said.

Sounding cautiously optimistic about the continued higher economic expansion, the report said the GDP growth is likely to mirror the trend in the past fiscal, though many downside risks have emerged.

"The risks to inflation from rising oil and commodity prices as well as domestic core inflationary pressures exist. Unless addressed, they have a potential to adversely impact growth," it said.

"The high global crude prices and other commodity prices pose the biggest risks to our growth and inflation. Fresh pressures from commodity prices do make FY12 a challenging year for inflation management," the report added.

Pegging the current account deficit (CAD) significantly lower at 2.5% of GDP for FY11, from the earlier projection of 3%, the report however noted that spike in oil prices poses the risk of it widening.

Also the wild fluctuations in portfolio flows and rising debt flows pose risks to sustain lower CAD.