RBI needs to talk to GoI PDF Print E-mail
Wednesday, 18 July 2012 00:12
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One won't cut interest rates, other won't free supply

With RBI Governor Duvvuri Subbarao making it clear the current headline WPI inflation of 7.25 is above the threshold when it starts to adversely affect GDP growth, it suggests RBI is not going to be cutting rates at its next meeting at the end of the month. The problem, as we’ve said before, is that it’s not quite clear what number RBI is looking at. While food inflation continues to rise, to 10.81% in June (April-May food inflation is even higher than it was last year), core inflation has been falling steadily and was 4.9% in June as compared to around 8% levels a year ago—since core inflation is what RBI policy can hope to control, it’s clear the policy is working and, at under 5%, core inflation seems to be within the expected range. So while many thought this meant RBI would start cutting rates, in its last policy statement, RBI began talking of how CPI inflation was still stubbornly high!



RBI is, of course, right when it talks of incomplete transmission of inflationary impulses (from a hike in diesel prices, as and when that happens, for instance) or of supply constraints which can just as quickly give a fillip to inflation. Food inflation is a good example. With food inflation rising 9.5% in the January to June period as compared to the overall inflation of 3.5% in this period, it’s obvious the problem is more of a supply-side one than a demand one. In the case of fruits and vegetables, the January to June hike is a whopping 32.5%. A point reiterated when you see the rising difference between food-WPI and food-CPI to well over 100% now—with the number rising the most over the last few years, it is obvious retail-level reforms are the solution, and not anything RBI can possibly do.

In which case, it’s high time RBI and the finance ministry had a candid discussion instead of talking at each other through the media. If RBI isn’t going to cut rates in a meaningful manner till the government does its bit on easing supply constraints and on cutting expenditure, and the government isn’t going to do anything to ease supply constraints in a hurry, this seems to be the surest recipe for stagflation even if, as some argue, we’re not in stagflation at the moment.


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