Third Quarter Review of Monetary Policy 2010-11
-Announced on the 25th January 2011
III. The Policy Stance
42. The Reserve Bank began exiting from the crisis driven expansionary monetary policy as early as in October 2009. Since then, it has cumulatively raised the CRR by 100 bps, and the repo and reverse repo rates under the LAF by 150 and 200 bps, respectively. As the overall liquidity in the system has transited from a surplus to a deficit mode, the effective tightening in the policy rate has been of 300 bps. The monetary policy response was calibrated on the basis of India specific growth-inflation dynamics in the broader context of global uncertainty.
43. While the Reserve Bank decided to leave the policy rates unchanged in the Mid-Quarter Review of December 2010, developments on the inflation front since then have reinforced the already elevated concern in this regard. Accordingly, our monetary policy stance for the remaining period of 2010-11 has been guided by the following considerations:
First, since the Second Quarter Review of November 2010, inflationary pressures, which were abating until then, have re-emerged significantly. Primary food articles inflation has risen again sharply after moderating for a brief period. Non-food articles and fuel inflation are already at elevated levels. Importantly, non-food manufacturing inflation has remained sticky. There are, therefore, signs of rapid food and fuel price increases spilling over into generalised inflation. As it is, there is some evidence of rising demand side pressures which are reflected in rapid bank credit growth, robust corporate sales and rising input and output prices, and buoyancy in tax revenues. The need, therefore, is to persist with measures to contain inflation and anchor inflationary expectations.
Second, global commodity prices have risen sharply which has heightened upside risks to domestic inflation.
Third, growth has moved close to its pre-crisis growth trajectory as reflected in the 8.9 per cent GDP growth in the first half of 2010-11, even in the face of an uncertain global recovery.
Fourth, the global economic situation has improved in the recent period. The uncertainty with regard to global recovery, which was prevailing at the time of the Second Quarter Review, has reduced with the US economy showing signs of stabilising. Although uncertainty continues in the Euro area, there is an overall improvement in the global growth prospects.
44. To sum up, the current growth-inflation dynamics in the last few weeks suggest that the balance of risk has tilted towards intensification of inflation. In this scenario, the stance of the monetary policy is intended to :
Contain the spill-over of high food and fuel inflation into generalised inflation and anchor inflationary expectations, while being prepared to respond to any further build-up of inflationary pressures.
Maintain an interest rate regime consistent with price, output and financial stability.
Manage liquidity to ensure that it remains broadly in balance, with neither a surplus diluting monetary transmission nor a deficit choking off fund flows.
45. It is important to emphasise that the role of monetary policy in the current inflationary situation is confined to containment and prevention of food and energy prices from spilling over into generalised inflation and anchoring inflation expectations. While energy prices are driven by global developments, the food price scenario is primarily a reflection of persistent structural constraints in the domestic agricultural sector. While these have been known and debated upon for a long time, the recent price dynamics highlight the need for rapid action to increase the output of a number of products, the demand for which is being driven by changing consumption patterns reflecting increasing incomes. Unless meaningful output enhancing measures are taken, the risks of food inflation becoming entrenched loom large and threaten both the sustainability of the current growth momentum and the realisation of its benefits by a large number of households.
46. Another challenge to effective management of inflation by monetary policy arises from the persistence of a large fiscal deficit. While the Government may succeed in raising receipts, both from high tax buoyancy and one-off sources, the real measure of fiscal consolidation lies in improving the quality of expenditure. If the Government is able to commit more resources to capital expenditure, it will help deal with some of the bottlenecks that contribute to supply-side inflationary pressures. With reference to revenue expenditure, while large and diffused subsidies may contribute in the short term to keeping supply-side inflationary pressures in check, they may more than offset this benefit by adding to aggregate demand.
Click Here For Press Statement by Dr. D. Subbarao, Governor on Third Quarter Review
Macroeconomic and Monetary Developments: Third Quarter Review 2010-11
Highlights of Third Quarter Review of Monetary Policy 2010-11....Click Here
Mixed reactions from Banks, Economists, India Inc on RBI 3rd Qtr Review 2010-11 ....Click Here