Stress and distress

The Reserve Bank of India’s inflation fears and the limits it can impose on growth are clearly coming to the fore again. Governor Raghuram Rajan could have well been reinstating his hawkish stance for the next monetary policy early next year while commenting on the central bank’s financial stability report released on Monday.

Rajan’s message, as that in the RBI report, articulated again the need for speeding up fiscal consolidation to prune fiscal deficit and push through policy reforms to boost growth, and the risks of deteriorating bank assets. Nonetheless, RBI’s collective 50 basis point hikes in September and October has not helped contain food and WPI inflation effectively as much as the early December spurt in crop arrivals has.

The bank had maintained status quo on increasing interest rates in December, which should have given it time to take a call on what and how much it can and should do to control food inflation. Jacking up interest rates alone on a monthly basis to control inflation could actually stall growth going ahead. RBI is rightly worried about declining domestic savings, which its own contribution to reversing the process failed to accomplish.

 Take inflation-indexed bonds which Rajan had promised while taking over as RBI governor. These bonds are linked to consumer price inflation (CPI), but have failed to capture the public imagination. Reason: while the bonds are similar to those issued in many countries, their face value does not keep increasing in line with the inflation index and the tax treatment for the bond holder has been described as less than fair. The interest rate is simply referenced to the CPI and not counted as capital gains, leading to the bonds finding few takers.

RBI’s fears of inflation and the current account deficit widening next year have to a certain extent been assuaged by the highest fall since 1981 of 29 per cent in gold prices this month. However, the larger worries and stumbling blocks in the path of growth remain unresolved. Resolving supply chain bottlenecks in the food chain is an issue which is persistently bypassed by the policy reforms machine, which the RBI has tacitly pointed out once again.

On the corporate front, advance tax numbers for the third quarter from the Top 100 companies have registered a moderate growth of 10 per cent, with the banking sector looking particularly disappointing. Given the dismal numbers, the slowdown is here to stay for now.

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