The right priority - Opinion

It is heartening that the Reserve Bank of India, in consultation with the Centre, has picked up enough courage to bite the bullet and take up the issue of tackling inflation as its main priority. So far, it was taking mere baby steps by way of a 25 basis point hike eight times since March 2010 to ensure that GDP growth does not falter. This time, the central bank surprised the market and a section of economic analysts by turning hawkish and raising its short-term lending (repo) rate by an unanticipated 50 basis points to 7.25 per cent and leaving the borrowing (reverse repo) rate to float lower by one percentage point at 6.25 per cent. Even as the bank rate and the cash reserve ratio have been left unchanged so as not to affect the flow of liquidity, the net effect of the annual credit policy action is that short-term funds the banks borrow from the RBI will be available at a higher rate and, as a result, housing, auto, and consumer loans will cost more to the consumer. The policy move, which will mean marginally lower GDP growth in the short term, has come as a disappointment to India Inc. owing to the negative impact on investment. But the higher-than-expected increase in key policy rates should be viewed as a chemotherapeutic dose to combat the cancer of inflationary expectations.

As it is, while food inflation has been ruling high through almost all of the past year owing to seasonal and other factors and a solution lies in easing the supply bottlenecks and increasing production and productivity, the more worrying factor is the headline inflation that has remained at a high of near nine per cent, belying even the scaled-up projection of the RBI at eight per cent for 2010-11. With prices of most commodities, especially oil, skyrocketing in global markets and with the external environment not exactly benign, the apex bank expects overall inflation to stay in the higher regions during the first half of the current fiscal and, in the absence of any further downside risks, moderate to more reasonable levels of about six per cent by the end of the year. It is clear that the reining in of demand pressures to contain inflation will have a negative impact on overall growth. While the government projected a GDP growth of nine per cent for 2011-12 as against 8.6 per cent achieved in 2010-11, the RBI has scaled down the estimate of overall expansion to eight per cent, which is in line with the realistic projections of various think tanks and multilateral financial institutions. Clearly, the country will have to bear the short-term pains if the long-term gains are to be achieved.