Central bankers in many big emerging market economies have suddenly shifted their focus from aggressively attacking inflation to creating conditions for growth. The rapidly worsening sovereign debt-cum-banking crises in Europe have caused a twin scare among emerging market central bankers. One, there is certainty that Europe is entering a phase of mild recession. Two, the magnitude of the sovereign debt/banking crises has created a permanent fear of a possible ?liquidity freeze around the corner?, like the one that had occurred for several quarters after the 2008 global financial meltdown. Growth rates fell sharply in emerging markets after that episode.

Since the memory of September 2008 and its aftermath is still fresh in their minds, central bankers in emerging economies are becoming wary of hiking interest rates further in a bid to kill the persistent inflationary pressures. In short, they are not going for the jugular of rising inflation simply because they fear growth could fall sharply as it did in 2009. Therefore, even in the face of rising inflationary pressures, some economies like Turkey, Russia and Brazil are cutting interest rates. Others like Malaysia, South Korea and China have chosen to pause in their interest rate tightening cycle. There is all round growth pessimism and GDPs of most developing economies, including China?s, are seen as decelerating already. Some analysts are even predicting a sub-8% GDP growth for China in 2012.

Against this backdrop, India?s central bank will have to take a difficult call next week on whether to continue with its interest rate tightening cycle or to pause. RBI has already done 12 rate hikes in a row and tightened to the tune of 350 basis points over the past year and a half. Despite this effort, inflation has stubbornly persisted at an average 9.6% over the past 20 months. Significantly, during this period, GDP growth has fallen sharply from 9.4% to 7.7%. Most analysts are now fearing that India?s GDP could fall below 7.5% in 2012. Some say the medium-term growth rates could revert to the mid-nineties average of 7% to 7.5%.

Going by the book, the RBI Governor D Subbarao may have to resort to a few more rate hikes to signal that he wants to break the back of inflationary pressures. However, six months down the line, one may still face a situation where inflation levels remain elevated at around 8% and quarterly GDP growth falls closer to 7%. Is this what RBI would want? One seriously doubts whether RBI would regard this as a successful outcome of its actions, especially since the Governor has publicly reiterated in recent months that India?s central bank is a peculiar animal with a multiple-objectives mandate rather than remain narrowly focused on inflation to the exclusion of everything else. Therefore, RBI cannot remain unmindful of how growth pans out even as it embarks on its primary objective of attacking inflation.

In some sense, most central bankers around the developing world are necessarily looking at macro-economic conditions six months ahead in order to decide what they must do today. One view is recession in Europe and a sharp slowdown in the US and China could result in oil and commodity prices falling substantially, thus easing global inflationary pressures. In India, 60% of the inflation basket in the wholesale price index is linked to commodities. So, any sharp correction across the board in commodity prices will naturally bring huge relief. Of course, in recent weeks, the rupee depreciation has offset some of the

fall in the global oil and commodity prices. However, the depreciation cycle seems to have peaked and, from here on, the currency is likely to revert to mean over the next few months when the commodity prices witness more downward correction.

The rupee depreciation is caused by the fear that dollar inflows could slow down sharply over the next six months if the eurozone situation worsens. Again, the episode of 2008-09 when net capital inflows into the country fell about 90%?from $100-billion plus in 2007-08 to less than $13 billion in 2008-09?is still fresh in memory. However, things will not get as bad as in 2008-09 because there is much more awareness and preparedness among the G20 economies.

The moment Europe gives full clarity on the real extent of the sovereign debt/banking crises and declares a firm medium-term roadmap for taking care of it, the liquidity fears in the global banking system would ease. That should help India and other emerging economies that increasingly depend on global savings to drive domestic investment.

Meanwhile, RBI must make a strong plea in its policy statement next week that the Centre start playing its big part in ensuring that the growing investment pessimism in the economy is arrested. The Centre may want RBI to pause its tightening cycle this time round. But it must also play its part in justifying a rate pause. Instead, the Centre has sent just the opposite signal by overshooting on its borrowing programme by over R53,000 crore. This sent the 10-year government bond yields soaring. This leaves little room for RBI to support growth even as a secondary objective.

The Centre has been contributing to higher food inflation by consistently increasing the minimum support price for farmers. Agreed, this is a conscious decision, but what about taking other focused policy measures to enhance agriculture and natural resource supplies on a war footing? At present, RBI seems to be getting little or no support from the Centre in this regard. Without support from fiscal authorities, RBI?s performance can only be sub-optimal.

mk.venu@expressindia.com