With growth in the dumps, this has to be RBI’s motto
With just two, possibly three, of RBI’s conditions for not hiking policy rates met, the question is whether the central bank will, or should, raise interest rates on January 28. While headline WPI inflation is down from 7.52% in November to 6.16% in December thanks to primary goods inflation coming down from 15.9% to 10.8%, headline CPI is down from 11.16% to 9.87% with vegetables inflation coming down from 61.1% to 38.8% in the same period. Though the headline inflation criterion has been met fully, the same can’t be said about core inflation. In the case of WPI, core inflation is up marginally from 2.7% to 2.8%, though within the comfort zone of 3%; in the case of CPI, however, core inflation remains at a stubborn 8% or thereabouts for the past few months.
Inflation hawks would suggest RBI should hike rates since there are already signs that, with just the slightest hint of a bottom being reached in certain sectors, companies have begun raising prices a bit—as demand picks up, the argument goes, manufacturing firms will be quick to pass on costs they have been absorbing so far. Raising rates, however, will be a bad idea since, for one, with deposits rates continuing to outstrip credit growth—till the end of December 2013, year-on-year deposits grew 15.86% versus 14.75% for credit demand—it seems unlikely there will be interest rate transmission. Two, for every incipient sign of a bottom having being reached, there are two more to show the bottom is not in sight. Nor is it clear where the growth impulse is going to come from. Government spending continues to shrink dramatically, from around R1,65,000 crore in June, government spending contracted to R1,46,000 crore in September and further to R99,000 crore in December—this is probably why the government has just put off R15,000 crore of scheduled GSec auctions. Partly as a result of this, and partly because of private consumption slowing, consumer durables sales contracted 21.5% in November, a number not seen in many years. With the peak power deficit down to a mere 4.2% in December 2013 compared to 10% in December 2012, it is obvious industrial demand does not exist—in even the power-starved south, the peak deficit is down to 3.7% from 18.9%. In such a situation, despite RBI’s fond hopes that the growth impulse will come from the projects cleared by the Cabinet Committee on Investments (CCI) coming on stream, it is not entirely certain all projects are viable any more. In the power sector, for instance, with plant load factors running as low as 70% right now, the existing plants have enough capacity to service demand for a long time. And with AAP-type populism spreading, certainly investors would like to pause till the election results are out. In such a situation, while it is not RBI’s job to look for ways to stimulate growth, it is a good idea to keep the basic principles of medicine in mind: first, do no harm.