The RBI has raised the repo - rates at which it lends to & borrows from banks- by 25 basis points. Though anticipated, this is still a surprise move coming ahead of the july27 credit policy review. There are, to be sure, some valid concerns about generalized inflationary pressures on the economy. While food price inflation dipped sharply to 12.92% for the week ending June 19 from the previous week, that was thanks to the base effect. On its part, petrol price decontrol is expected to have a spillover effect on freight rates and, consequently, cost of food and manufactured goods. With talk of a possible freeing up of diesel prices as well, RBI' s step can be considered forward-looking. Fuel price increase, it's estimated, could push up monthly price inflation by 0.9% points.
Another concern on the price front is the monsoon: it hasn't played to script so far. Should the situation persist, it would have a bearing on already high food bills. Nonetheless, let's keep in mind that food inflation has been broadly supply-side driven while fuel prices rise will have a cost-driven inflationary impact. In neither case would monetary policy be the most effective counter. Non-food items are contributing to inflation as found in May's figures, but this alone isn't conclusive evidence of excess demand pushing up prices.
While healthy factory output creates a leeway for monetary policy tightening, there's worry on the external front. The RBI itself feels persisting global uncertainties could impact the economy. Manufacturing output and jobs in the labour-intensive export sector remain vulnerable to demand shocks overseas. Industry is self-confessedly regaining the ability to absorb incremental interest rate increases. But, by all indications, private demand isn't in the kind of comfort zone warranting radical action to squeeze credit flow. Banks' use of the base rate in place of the benchmark prime lending rate is likely to moderate demand here in any case thanks to rise in the corporate borrowing rate.
On no account should cramped availability or steep cost of funds put speed breakers in the process of economic revival. Well aware of this, the central bank has confirmed liquidity support measures to ensure banks don't face a resource crunch. It's welcome that banks, on their part, have resolved not to raise interest rates as a knee-jerk response to RBI rate hikes. The latter signal that inflation is under close watch. But given the necessarily calibrated nature of RBI action so far, it's clearly not the only thing under watch. Keeping growth targets remains as much of a priority.
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