RBI's Annual Monetary Policy Statement for the Year 2012-13 -17th April 2012
I. The State of the Economy
5. Global macroeconomic conditions have shown signs of modest improvement. In the US, the GDP growth [quarter-on-quarter (q-o-q), seasonally adjusted annualised rate (saar)] accelerated to 3.0 per cent in Q4 of 2011. Consumer spending has been improving. While the unemployment rate has been trending down, concerns remain about the sustainability of this trend.
6. The immediate pressures on the financial markets in the euro area have been alleviated to a large extent by the ECB injecting liquidity of more than one trillion euro through two long-term refinancing operations. However, a sustainable solution to the euro area debt problem is yet to emerge. GDP growth (q-o-q, saar) in the euro area declined by 1.2 per cent in Q4 of 2011. The fiscal correction necessitated by the large public debt levels, tightening of credit conditions and persistently high unemployment have added to the downward pressure on the economic activity in the euro area.
7. Growth also slowed down in EDEs reflecting the combined impact of monetary tightening and slowdown in global growth. As regards BRICS, GDP growth [year-on-year (y-o-y)] in China declined from an average of 9.6 per cent in the first half of 2011 to 8.1 per cent in Q1 of 2012. The slowdown in growth was also sharp in Brazil in Q4 of 2011, but relatively modest in Russia and South Africa.
8. Headline measures of inflation in major advanced economies continued to soften in March 2012. Amongst the BRICS, while headline inflation moderated in Brazil and Russia in March, it edged up in China.
9. International crude oil prices have surged since the beginning of 2012 reflecting both geo-political concerns and abundant global liquidity. The price of Brent variety of crude rose from US$ 111 per barrel in January to over US$ 120 per barrel by mid-April. Similarly, the price of the average Indian basket of crude increased from US$ 110 per barrel to US$ 119 per barrel during the same period.
10. GDP growth moderated to 6.1 per cent during Q3 of 2011-12 from 6.9 per cent in Q2 and 8.3 per cent in the corresponding quarter of 2010-11. This was mainly due to moderation in industrial growth from 2.8 per cent in Q2 to 0.8 per cent in Q3. The services sector held up relatively well (with growth being 8.7 per cent in both Q2 and Q3 of 2011-12). Overall, GDP growth during April-December 2011 slowed significantly to 6.9 per cent from 8.1 per cent in the corresponding period of the previous year.
11. On the demand side, gross fixed capital formation contracted in Q2 (-4.0 per cent) and Q3 (-1.2 per cent) of 2011-12. The government final consumption expenditure increased by 6.1 per cent in Q2 and 4.4 per cent in Q3. Private final consumption increased by 2.9 per cent in Q2 and 6.2 per cent in Q3.
13. For the month of March 2012, the manufacturing purchasing managers’ index (PMI) moderated to 54.7 from 56.6 in February reflecting lower new orders. The composite (both manufacturing and services) PMI also moderated to 53.6 in March from 57.8 in February.
14. According to the Reserve Bank’s order books, inventories and capacity utilisation survey (OBICUS), new orders and capacity utilisation of the manufacturing sector increased in Q3 of 2011-12 as compared with the previous quarter. Business confidence, as measured by the business expectations indices of the Reserve Bank’s industrial outlook survey, showed a pick-up in the business sentiment in Q4 of 2011-12, but a marginal moderation in Q1 of 2012-13.
15. Headline wholesale price index (WPI) inflation, which remained above 9 per cent during April-November 2011, moderated to 6.9 per cent by end-March 2012, consistent with the Reserve Bank’s indicative projection of 7 per cent. However, while the moderation in inflation in December-January owed largely to softening of food prices, the moderation in February-March was largely driven by core non-food manufactured products inflation, which fell below 5 per cent for the first time after two years.
16. Food articles inflation, which was 8.1 per cent during April-December 2011, briefly turned negative in January 2012 reflecting the seasonal decline in food prices, particularly of vegetables, combined with a high base effect. However, it increased sharply to 6.1 per cent in February and further to 9.9 per cent in March 2012 with the wearing-off of the base effect and rise in vegetables prices. Inflation in protein-based items – ‘eggs, fish and meat’, milk and pulses remained high, reflecting persistent structural demand-supply imbalances.
17. Fuel inflation moderated from over 15 per cent in November-December 2011 to 10.4 per cent in March 2012 even as global crude oil prices rose sharply, reflecting the absence of commensurate pass-through to domestic consumers. However, mirroring the high international crude oil prices, inflation in respect of non-administered mineral oils remained elevated at 19.8 per cent in March.
18. Non-food manufactured products inflation, which was 8.4 per cent in November 2011, decelerated significantly to 5.8 per cent in February and further to 4.7 per cent in March 2012. This reflected both a slowdown in domestic demand and softening of global non-oil commodity prices. The momentum indicator of non-food manufactured products inflation (seasonally adjusted 3-month moving average inflation rate) also showed a declining trend.
19. Notably, consumer price index (CPI) inflation (as measured by the new series, base year: 2010) increased sharply from 7.7 per cent in January to 8.8 per cent in February reflecting a reversal in food inflation. CPI, excluding food and fuel, was in double digits, suggesting that price pressures were still high at the retail level. Driven by food prices, inflation based on other CPIs reversed its declining trend of previous four months to increase in February. According to the latest round of household survey conducted by the Reserve Bank, inflation expectations, although still elevated, have moderated after rising for the previous three quarters.
20. An analysis of corporate performance during Q3 of 2011-12, based on a common sample of 2,352 non-government, non-financial companies, indicates that sales growth was relatively robust even after adjusting for inflation. However, earnings before depreciation, interest and tax (EBDITA) and profit after tax (PAT) margins continued on the downward trajectory that began earlier in the year. These patterns suggest a steady decline in the pricing power, as producers found it increasingly difficult to pass on rising input costs to their customers.
21. Money supply (M3) growth, which was 17 per cent at the beginning of the financial year 2011-12, reflecting strong growth in time deposits, moderated during the course of the year to about 13 per cent by end-March 2012, lower than the Reserve Bank’s indicative trajectory of 15.5 per cent, mirroring both tightness in primary liquidity and lower credit demand during most part of the year.
22. Non-food credit growth decelerated from 22.1 per cent at the beginning of 2011-12 to 15.4 per cent by February 2012 reflecting slower economic activity. However, it picked up to 16.8 per cent in March, higher than the indicative projection of 16 per cent. Disaggregated data up to February 2012 showed that the deceleration in credit growth was broad-based across agriculture, industry, services and personal loans. The pick-up in non-food bank credit towards the year-end was on account of increased credit flow to agriculture and industry. Net bank credit to the Central Government increased at a significantly higher rate of 15.7 per cent in 2011-12 as compared with 8.4 per cent in the previous year reflecting higher borrowings.
23. Mirroring tight liquidity conditions and higher cost of borrowings from banks, corporates increased their recourse to non-bank sources, especially foreign direct investment (FDI) and commercial paper. Consequently, despite lower bank credit expansion (in absolute terms), the total flow of financial resources to the commercial sector was higher at Rs 12.7 trillion during 2011-12 as compared with Rs 12.4 trillion during the previous year.
24. During 2011-12, modal deposit rates of major scheduled commercial banks (SCBs) increased by 45 basis points (bps), and their modal base rates by 125 bps. Weighted average lending rates of five major public sector banks increased from 11.0 per cent in March 2011 to 12.8 per cent by September 2011 and remained broadly at that level in February 2012, suggesting that bank lending rates were broadly following the policy rate signal.
25. Liquidity conditions remained in a deficit mode throughout 2011-12. However, beginning November 2011, the liquidity deficit went beyond the comfort level of (+)/(-) one per cent of net demand and time liabilities (NDTL) of banks. Average net injection of liquidity under the daily liquidity adjustment facility (LAF) increased from around Rs 0.5 trillion during April-September 2011 to around Rs 1.4 trillion during February 2012 and further to Rs 1.6 trillion during March 2012, partly reflecting a build-up in government cash balances. In order to mitigate the liquidity tightness, the Reserve Bank took steps to inject primary liquidity of a more durable nature. It conducted open market operations (OMOs) aggregating around Rs 1.3 trillion between November 2011 and March 2012. Further, the cash reserve ratio (CRR) was reduced by 125 basis points (50 basis points effective January 28, 2012 and 75 basis points effective March 10, 2012), injecting primary liquidity of about Rs 0.8 trillion. Reflecting these measures, combined with decline in government cash balances, the net injection of liquidity under the LAF, which peaked at Rs 2.0 trillion on March 30, 2012, declined sharply to Rs 0.7 trillion on April 13, 2012.
26. The revised estimates of Central Government finances for 2011-12 showed that key deficit indicators deviated significantly from the budget estimates (BE). The Union Budget for 2012-13 initiated a return to a fiscal consolidation path by committing to amend the Fiscal Responsibility and Budget Management (FRBM) Act, 2003. Significantly, it also signalled an intention to restrict the expenditure on subsidies to under 2 per cent of GDP in 2012-13. These measures will go a long way in helping to achieve credible medium-term fiscal consolidation. In the current year, the targeted 0.8 percentage point decline in the fiscal deficit-GDP ratio, however, will hinge critically on substantive actions on fuel and fertiliser subsidies.
27. The 10-year benchmark government security yield remained range-bound during the first half of 2011-12. It firmed up in October 2011 on account of increased market borrowing, policy rate hikes and persistent liquidity tightness. The yield hardened again somewhat towards end of March 2012 reflecting concerns about government borrowing programme in 2012-13, which is significantly larger than even the expanded programme of 2011-12. The 10-year benchmark yield was at 8.6 per cent on April 13, 2012 as compared with 8.0 per cent at end-March 2011.
28. During April-December 2011, India’s current account deficit (CAD) widened to US$ 53.7 billion (4.0 per cent of GDP) from US$ 39.6 billion (3.3 per cent of GDP) in April-December 2010, largely reflecting a higher trade deficit. Even though net FDI inflows were higher in April-December 2011 than in the comparable period of the previous year, portfolio flows were lower, resulting in a decline in overall capital inflows as compared with the previous year. Consequently, there was a drawdown of reserves to the extent of US$ 7.1 billion during April-December 2011 in contrast to an accretion of US$ 11.0 billion in the corresponding period of the previous year.
29. The currency market was under pressure during August-December 2011 due to a slowdown in capital inflows reflecting global uncertainty. However, conditions eased in Q4 of 2011-12 reflecting a pick up in capital inflows as well as the impact of policy measures undertaken to improve dollar supply and contain speculation. During 2011-12, the 6, 30 and 36-currency trade weighted real effective exchange rates (REER) depreciated in the range of 8-9 per cent, primarily reflecting the nominal depreciation of rupee against the US dollar by about 13 per cent.
An analytical review of macroeconomic and monetary developments was issued a day in advance as a supplement to this Statement, providing the necessary information and technical analysis with the help of charts and tables.
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