Subbarao hints at rate cut

Written by Economy Bureau | New Delhi | Updated: Feb 19 2009, 07:20am hrs
Two days after finance minister Pranab Mukherjee said the economy would grow at a healthy 7.1% in 2008-09, RBI governor Duvvuri Subbarao warned that the impact of the global downturn on the Indian economy would be sharper than expected. The challenge for the government of India and also (RBI) is going to be to minimise the pain, he said, signalling that RBI may cut rates again.

RBIs interest rate reductions and the governments fiscal stimulus have pumped $75 billion (almost Rs 3.7 lakh crore) into the economy since October. Significantly, Subbarao stressed that India is still committed to opening its capital account further, even though it will draw lessons from the current crisis on how to proceed.

The governor cautioned that though consumption demand is holding up, investment demand will see a further downturn before it climbs back up. He also expressed concern about the total fiscal deficit for 2008-09 touching 10% of GDP. India has room to cut interest rates, but the question is when and whether it should do so and by how much. There certainly is room to cut rates, Subbarao told reporters at a conference in Tokyo.

Expectations of a rate cut have risen in the light of the interim Budget presented on Monday having no major expenditure plans or tax cuts. Though RBI has cut key bank rates four times since October, it did not tinker with rates in its monetary policy review on January 27. After the last round of rate cuts on January 2, the repo rate is at 5.5% while reverse repo is at 4%.

With inflation falling to 4.39% by January end, RBI now has room to ease its monetary stance. Its not automatic that with inflation coming down you cut rates. A lot of other variables enter into the calculation about adjusting policy interest rates. I wouldnt say (there is) risk of inflation as the wholesale price indexinflation as measured by WPIis coming down, Subbarao said.

Noting that while consumer price inflation was still lagging behind, We hope that that will come down, too. But yes, there is a constant concern that we must protect the poor from price increases. Bond yields rose by five basis points after the RBI governors comments. The yield on the 8.24% bond maturing in 2018 increased to 6.4% from 6.35% earlier. The rupee, however, dropped to an 11-week low to Rs 50.10 a dollar before closing the day at 49.92.

Subbarao seemed nonplussed, though. The foreign exchange market was quite stable, with the rupee moving both ways. The exchange rate has been range-bound, so I believe that the situation is very much under control. Low inflation has other fringe benefits, the governor pointed out: Because of low commodity prices, I think imports will shrink faster than exports, so the current account deficit should be more modest than earlier feared.