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No 'QE' for the RBI - Views on News from Equitymaster
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  • Nov 2, 2010

    No 'QE' for the RBI

    While its counterparts in the developed world get ready to offer another dose of cheap money (popularly known as quantitative easing or QE) the central bank in India has no such plans. In fact, in its quarterly review of the monetary policy, the RBI today once again raised interest rates in an attempt to curb liquidity. So far the central bank has made no attempt to hide its discomfort with rising price levels. And keeping that in mind, the move to raise interest rates was well anticipated.

    The RBI once again raised the rates at which it borrows from (reverse repo) and lends to (repo) banks by 0.25% each. Although the cash reserve ratio (CRR) has been held constant, the repo and reverse repo rates are expected to make short term liquidity dearer. The stubborn inflation number that has shown no signs of receding has compelled the RBI to raise rates for the sixth time this year. The overall hike in repo rate has been 1.25% so far while that in reverse repo has been 1.75%. Amongst its Asian counterparts, the RBI has been the most aggressive in terms of containing liquidity of late. However, the concerns that it raises are that of impact on foreign fund flows and appreciation of the currency against the US dollar.

    The benchmark measure of price rises - the wholesale price inflation (WPI) - rose by 8.6% in September, the last data considered for the review. This was backed by 13.8% rise in food prices. Thus the number is well above the RBI's comfort zone of 5 to 6%. The RBI also sees such price pressures persisting. That is because while demand remains buoyant in emerging markets, the steep rise in commodity prices due to foreign fund flows may exert pressure on overall prices. Lending by banks to the commercial sector has also been in line with the RBI's estimates. In fact several banks also used this opportunity to raise their lending rates. Interestingly, however, the RBI has kept the projected WPI for March 2011 intact at 6%.

    The RBI has also pointed out the key reasons why it believes that the risks to inflation are largely on the upside. One because further monetary easing in advanced economies may take commodity prices even higher. Two, high food inflation in domestic market will continue to weigh on overall inflation. And finally, with the domestic capacity utilisation slowly approaching the pre-crisis peak in many sectors, demand side pressures may accentuate. Thus the problem of inflation is for here to stay, at least temporarily.

    Having said that besides inflation the RBI is also worried about asset bubbles and exchange rates. Equity markets in particular have found a mention in the policy note. Residential property prices in Indian metros are beyond the pre-crisis peak according to the RBI. Thus while the RBI does not rule out further rises in the income levels of Indian households and corporates, it may need to battle several macro- economic challenges.



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