FE Editorial: Hike and pay

Written by The Financial Express | Updated: Jan 29 2010, 02:22am hrs
The general consensus among market participants and researchers tracking the macroeconomy seems to believe that RBI will begin a tightening of monetary policy in earnest in its quarterly review on Friday. For the majority, the only suspense that remains is whether RBI will hike only the CRR, or whether it will also hike repo and reverse repo rates. It is our considered view, expressed on a number of occasions in these columns, that it is still too early to begin a monetary tightening. Of course, RBI must worry about inflation but before it tries to fix the problem it must diagnose its precise cause. It seems amply clear that inflation is still being driven by high food prices, which are a supply side phenomenon. There is no strong evidence as of now, as is also argued by our columnist on the left today, of inflationary expectations taking serious hold in the rest of the economy. Instead, what there is, is strong evidence of the still nascent stage of the economic recovery. That is what should still take primacy in RBIs thinking, not inflation.

The global economic environment on growth remains uncertain. The West may have statistically come out of recession but recovery lies some months away. China has already begun a monetary tightening to arrest asset bubblesthat will take a toll on growth. In India, there isnt a convincing case on asset bubbles eitherforeign inflows, which had been of concern, dont seem to be showing any significant surge. Importantly, if the West continues to stutter and China slows down, we will have to rely on internal sources for propelling growth. But for the moment there is little indication of overheating in Indiagrowth in bank credit continues to be significantly below the targeted rate. Industry may be showing impressive growth in recent IIP figures but the low base of the previous year must be factored in before we pronounce a complete recovery. Also, the role of fiscal and monetary stimulus in driving this growth should not be blanked outit isnt clear if industry can maintain this rate if the fiscal and monetary stimulus is withdrawn. In terms of exit, there may indeed be a strong case to withdraw sector-specific fiscal stimulusauto, for example, is doing well enough not to be accorded a tax concession. However, autos boom has been driven more by lower interest rates on loans than tax concessions. And a monetary tightening will only kill demand that has been building up. So, the best decision RBI can make at Fridays review is to do nothingstatus quo for a while longer is necessary to keep the growth momentum going.