"If you suck out liquidity, other sectors get affected; roads get affected...So it is a complex issue," RBI Deputy Governor KC Chakrabarty said.

He said demand factors to fuel inflation superimposes on supply factors at some point of time and then the RBI's role assumes importance in sucking out liquidity from the system.
When asked whether this is a situation right, he said, "at every point of time, demand plays a role. What part, we have to see whether it is five per cent or 55 per cent and that is a matter of judgment."

He said it is for the RBI Governor to make a judgement whether time has come to suck out liquidity. "There is no formulae for it," he added.

Prime Minister's Economic Advisory Council chairman C Rangarajan, however, said that some monetary action should be taken to tame inflationary expectations, even though supply side management should be laid primary emphasis on.

"The primary focus should be on supply side management. There is also some case for monetary action," said Rangarajan, who also served as RBI governor earlier. (More)
Rangarajan said monetary policy has a role to play to moderate the aggregate demand. On his projections for inflation, he said there has been some softening of food inflation between the end of December and early January.

"So, some softening may be expected. But, probably the inflation rate at the end of March will be a little higher than what has been projected (by RBI)," he said.
Wholesale price inflation surged to more than a year's high of 7.31 per cent in December on higher food prices, mainly sugar, pulses and potato.

The December numbers beat the RBI forecast of 6.5 per cent-level only by March end. However, food inflation eased a bit to 17.28 per cent during the week ended January 2 from 18.22 per cent a week ago.

With the rising trend in food prices rubbing off on other commodities as well, RBI is expected to squeeze money supply in its January 29 monetary review to tame inflationary expectations.

"I expect RBI to hike cash reserve ratio (cash requirement of banks) by 50 basis points. The central bank could also raise repo and reverse repo rates (short term rates) by 25 basis points each," Crisil principal economist DK Joshi said.

"Food inflation is spilling over to other areas. I expect overall inflation to reach 8.5 per cent by March end," said HDFC Bank economist Jyotinder Kaur.