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RBI: Urgent need for new investments

Source : BUSINESS_STANDARD
Last Updated: Tue, Jan 29, 2013 20:43 hrs
Financial analysts hail decision of RBI to cut repo rate

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 Reserve Bank of India (RBI) governor announced a 0.25 per cent cut in the repo rate and also reduced the cash reserve ratio by 25 basis points, which would infuse Rs 18,000 crore of liquidity in the system.

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

RBI's stance clearly states that the days of four to five per cent inflation are unlikely in the near future. Given this scenario, expecting sharp rates cuts (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 in the battle against inflation, RBI seems to be having a tough time dealing with growth. The central bank has further reduced India's gross domestic product expectation to 5.5 per cent for the current financial year. With fewer options in his armory the 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. The government's focus is more on attracting global capital than improving domestic sentiment. Here, the governor points out 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 the ability to attract foreign exchange will be hit if the economy slows further. Financing the CAD with risky and volatile flows makes the economy more vulnerable to shocks.

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


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