Letters: Not good enough

With inflation nudging 10 per cent, the RBI should have done more

Reserve Bank governor Duvvuri Subbarao is too much of a gentleman to tell his political bosses in Delhi to go take a walk. This is why when inflation is nudging 10 per cent and likely to rise higher, when government borrowing is running high, and asset prices are bloating he has chosen to be accommodative in his monetary policy. The decision to raise repo rates and the cash reserve ratio (CRR) by 0.25 per cent is neither here nor there.

As a signal, it is too weak to register on anyone’s radar. As a measure to tighten money, it means nothing. For months now, it has been clear that the real battle is against runaway inflation. Households have been watching food prices soar, and now other consumer prices are also taking wing. The Reserve Bank has acknowledged as much: “Inflation, which was earlier driven entirely by supply side factors, is now getting increasingly generalised.” But the locking up of Rs 12,500 crore through CRR is not enough to tell all that the RBI is getting into battle gear on inflation.

The reason is clear. The government has a huge borrowing programme for 2010-11, and if rates are raised too quickly, the interest bill will rise sharply. Even though the budget announced a lower borrowing target for 2010-11, the government will be issuing more fresh securities this year for various technical reasons. This is why the RBI sees managing this year’s borrowing target as a “bigger challenge” than last year’s.

The RBI also seems to be pussyfooting around the fact that asset prices are being inflated by excess capital inflows. Thanks to unnecessary caps in several sectors (telecom, and insurance come to mind) and weak movement on reforms, capital flows are going more into stocks and property than job-creating investments. This is fuelling a bubble that can only harm the economy at some point when it bursts.

The real hazard of not raising rates sharply is that it allows New Delhi to pretend that all is well. The government has done little to promote reforms — especially in oil prices — and fiscal consolidation is dependent on the sale of public sector equity. That’s probably one more reason why Subbarao didn’t raise rates as much as he needed to. The government needs a buoyant stock market to sell Rs 40,000 crore of public sector equity this year, and higher interest rates are inimical to market buoyancy. Subbarao should have done more.

DNA, April 21