Reserve Bank of India governor Duvvuri Subbarao believes that the RBI?s calibrated approach to monetary policy was justified and the hikes of 25 basis points were appropriate at the time. Subbarao spoke to Financial Express after the policy announcement on Tuesday saying that there were concerns on exports and capital flows which may impact the current account deficit in the current year given high crude oil prices. Excerpts:
Do you think RBI could have tightened monetary policy by a bigger quantum a little earlier when the signs of high inflation were evident?
That?s a counter factual but we thought our policy action was appropriate at that time because the movement in crude oil prices wasn?t clear and there were developments in the middle east. If the question is should the policy action have been different, I?m not sure it should have been.
Would inflation be lower if crude oil prices don?t rise from here on?
No, I believe not. If the price adjustment does not happen and prices are not passed on to the consumers the fiscal will have to absorb it and that will be expansionary so the inflation that you do not see coming from the end prices you will see through the fiscal deficit.
In the finance ministry growth concerns seem to take precedence. So are you not so concerned about the short term sacrifice in growth ?
There is something to be worried on the job front, we need to create jobs. Certainly I would not like to minimise employment concerns. I also don?t want to say that the government in Delhi is for growth and RBI is for containing inflation. This is a democracy and we?ve seen that government are sensitive to inflation. This divide between growth and inflation is not an appropriate characterisation.
There would be some decline in investment because growth is coming down and industrial growth will be lower. We?re hoping the supply responses which will encourage investment and enhance productive capacity will not be hit too much and that high interest rates will restrain demand. But it is hard to target so many objectives with one policy rate. The growth-inflation demand doesn?t operate so much in India because we are a vigorous democracy and governments are sensitive to inflation.
Does the RBI discuss changes in rates with the government?
The decision to change rates is that of the RBI?s and we inform them as a matter of courtesy. On whether the government and central bank must act in co-ordination. Yes there should be co-ordination without encroaching on each other.
The current account deficit for 2010-11 has come in at 2.5% thanks to good exports. Do you have any visibility on the CAD for the current year given that flows may taper off?
No it?s too early to say what the CAD will be like but yes there is some uncertainty on exports given the global situation. The level of the CAD and the financing are a risk factor. Our views on capital flows were shaped by too much capital coming into emerging economies. In a few months we will worry about too little capital as investors start rebalancing their portfolios we may see less flows. It?s difficult to say what the situation will be on oil prices.
What could upset RBI?s inflation projections?
Higher oil prices, food prices, a rise in the price of primary articles and a bad monsoon could all hurt.
Recently you were concerned that some banks were overlending. Do you believe that will stop now that rates are bound to go up ?
The incremental credit growth has come down so I?m glad that the message has gone home. Ideally monetary transmission should work through communication and not by directly telling banks.