Monetary tightening can`t do much about inflation

Updated: May 03, 2011, 12:42 PM IST

Ajeet Kumar

As per expectation, RBI continued its streak of interest rates hike to nail food inflation. But the monetary tightening may hurt industrial growth in future, adds analyst.

The Reserve Bank of India (RBI) has raised its key interest rates ninth times since March to contain inflationary pressures. The lending rate known as the repo rate have been increased by a total of 250 basis points and borrowing rate, or reverse repo rate was raised by 300 basis points.

Deceleration in manufacturing and mining sectors pulled down the industrial growth, measured in terms of index of industrial production to a meager 3.6 percent during February as against 15.1 percent in the same month last year. This makes it a daunting task to maintain the expansion momentum during the same period of this fiscal due to the high base effect.

During April-February period of current fiscal, industrial growth slowed to 7.8 percent, from 10 percent in the previous financial year.

Industry chamber FICCI has warned that RBI step to hike interest rates during the Annual policy on Tuesday would affect the industrial output which is already lagging.

Manufacturing capacity expansion may not be feasible in the light of rising cost of borrowing and increased competition within domestic market from imports, FICCI said in a note.

Experts are also saying that the manufacturing output is still sluggish and the industrial growth is yet to reflect continuous momentum. Another rate hike by RBI may dampen future growth prospects rather than moderating inflation.

As far as headline inflation is concerned it is still over 8 percent, well above the RBI`s perceived comfort zone of 5-6 percent.

Many analysts are stressing the need to balance between growth and inflation. They are saying that the latter is mostly a supply side problem and the government should try to ease supply bottlenecks and prevent leakages rather than taking monetary steps like increase in interest rates which could only be able to curb demand led inflation.

The fundamental problem is neglect of agriculture and bypassing of farm sector reforms, they add. However they quick to clarify that inflation figures will see downside pressure in May onwards owing to heavy arrivals of winter -sown crops.

Headline inflation may come at around 5-6 percent between May and June as this will be the time when Rabi crops` harvesting will remains at its peak. Expectation of bumper Rabi production might also weigh on prices, they opined.

The Indian government is expecting a bumper production of food grains and pulses this year in wake of a very good monsoon in 2010 that boosted the Kharif crop coupled with some late rains that resulted in good soil moisture for the Rabi crop. Overall, farm production is set to reach close to record-highs, according to the latest estimates released by the farm ministry.

Production of wheat is estimated to reach an all-time high of 81.47 million tonne. Even more important is the case of pulses output which is all set to cross the 16-million-tonne-mark for the first time to reach 16.51 million tonnes.

Similarly in case of maize too, production is set to soar to 20.03 million tonne. Overall food grain output is expected to rise to 232.07 million tonne this year, marginally below the record production of 234.47 million tonne seen in 2008-09.

But some experts are still saying that the policy makers should remain cautious till the inflationary conditions are reversed in India and normalcy is restored in the developed economies.

They maintain that besides supply bottlenecks and the prospects of high crude-prices, concerns over robust credit growth and elevated levels of non-food manufacturing inflation has prompted central bank action to curb demand-led inflation.

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