Taking an extremely conservative stand, the Reserve Bank of India (RBI) on Thursday chose to throw a dampener on surging expectations of a rate cut by forecasting that there was limited scope for doing so owing to high retail inflation and widening current account deficit (CAD).
In its Macroeconomic and Monetary Development report released on the eve of the announcement of its annual monetary policy for 2013-14, the apex bank also advocated for improved governance and removal structural bottlenecks.
“While demand-side inflation pressures reduced, high consumer price inflation along with the CAD well above sustainable levels limit the space for monetary policy to support growth,” RBI said in the report.
This quite belies the growing expectations within economic and corporate circles of a significant cut in key rates. In fact from several quarters, there has been a growing echo for at least 0.50 cut in repo rates and also a decrease in the cash reserve ratio (CRR).
Meanwhile the RBI report said that the CAD/GDP ratio rose to a record 6.7 per cent in third quarter of 2012-13. RBI said that notwithstanding likely improvement in last quarter, the CAD/GDP ratio is expected to be at a new high of around 5 per cent for the year 2012-13, which is about twice the sustainable level.
Noting that the recent fall in the prices of gold and crude give a “much needed relief”, it said being complacent on a temporary phenomenon would be “myopic”.
The central bank has already reduced key interest rate by 1 per cent during 2012-13 and pressure is mounting on it to further cut rates in the annual policy to boost growth, which fell to a decade’s low of 5 per cent in the last fiscal.
On inflation, the report said the trend of downward spiral will continue through first half, while suppressed inflation in form of upward revision in energy prices and a base effect will lead to an increase in the second half.
A revival in growth in the current fiscal is likely, but the recovery would be modest in backdrop of stagnating industrial output, RBI noted.
A survey of professional forecasters sponsored by RBI expects the growth to improve to 6 per cent in 2013-14, and the average headline inflation to moderate to 6.5 per cent.
The nearly 20 per cent fall in commodity prices, and inflation at a 3 year low of 5.96 per cent in March, has led to expectations among the industry of cut in key policy rates.
The RBI conceded that its policy rates have been one of the reasons for the growth to dip, but maintained that a rate cut alone will not drive up the growth.
For the growth to go up, “we will have to see greater action on the governance front”, coupled with improving supply side bottlenecks, it said.
“Recovery at the current juncture will critically depend on supply-side action to remove a host of micro-constraints and structural bottlenecks that impede production and investment, especially in growth driving sectors such as road and power,” RBI highlighted.
The central bank also called for a public investment stimulus “balanced with offsetting reductions” in expenditures, along with removing the supply side bottlenecks, to revive the economy.
The report also said that if the Government continues with its recent efforts of curbing expenditure in order to meet the fiscal consolidation target, it is likely to reduce pressure on the CAD.