The government’s vision may prevail over RBI

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: The monetary policy to be announced on Tuesday is expected to be a classic case of the vision of the government versus the wisdom of the regulator. While there have been many such instances where the two have been at odds, there have invariably been compelling economic reasons why one of the two have prevailed. Most times, it was the RBI’s point of view that was supported by the environment and was adhered to in policy announcements. However, this time around, we see ample evidence for supporting both sides of the argument.

The government has now taken upon itself to increase the growth rate to 8.5% in the coming few quarters. Corporate results in the past two quarters have shown that they are now capable of growing at an increased level of more than 12%, and the government is confident of improving agricultural growth beyond 4%.

However, such growth would require further support in the liquidity and interest rate environments. The corporate sector would require ample amounts of reasonably priced funds in order to sustain the kind of growth expected from them. Maintaining interest rates at the present levels would allow companies access to such funds instead of having to turn to the expensive and (possibly) over bought capital markets.

Supporting the government’s argument to maintain interest rates is a bunch of factors. Externally, the Fed has continued to maintain interest rates and it has not increased them in the past quarter. The world economy is looking at 5% and beyond. Most significantly, though the oil import bill has gone up (due to previous forward contracts), oil prices have dropped to more manageable levels. A reduction in oil prices has not yet impacted inflation the way it should, as there is usually a lag before the oil price changes are passed through to commodity prices. As interest rates set by the regulator are more dependent on expected inflation rather than actual inflation, the stabilisation of oil prices support the government’s argument for maintaining the status quo.