Economists expect hike in interest rates in the current fiscal The Reserve Bank of India (RBI) is due to unveil the annual monetary policy statement for the fiscal ending March 2011 (FY 2011) on 20 April 2010. The challenges facing the central bank are managing the recovery as well as maintain price stability with the fasterthan- expected recovery in industrial production and inflation. Capital Market’s Yogesh Kulkarni and Vijay Ghutukade, quizzed Manoranjan Sharma, Chief Economist and Deputy General Manager, Canara Bank; Sumita Kale, Chief Economist, Indicus Analytics; Indranil Pan, Chief Economist, Kotak Mahindra Bank; Sujan Hajra, Chief Economist, Anand Rathi Financial Services; and Krupesh Thakkar, Research Analyst, India Capital Markets, on the options for the central bank. Excerpts: Higher inflation is raising anxiety. What should the RBI do? Manoranjan Sharma: The RBI should continue with its stance of monetary tightening throughout this calendar year. We see all rates — cash reserve ratio (CRR), statutory liquidity ratio, repo and reverse repo — going steeply up by December 2010. The Raghuram Rajan Committee’s report on the financial sector reforms made a case for inflation targeting as done in of the world, including the US and the UK and the European Central Bank. Sumita Kale: Monetary tightening has been on the cards for a while now. The question of timing and quantum of raise at each step over the year will depend on how the credit flows are increasing to the requisite sectors and whether capex plans are being undertaken or not. Inflation has already picked up in manufacturing items. So rates are warranted to influence inflation expectations. Indranil Pan: The RBI could be increasing the reverse repo rate by around 100 bps-150 bps in FY 2011 over the current 3.25%. Further, we expect the CRR to rise by around 75 bps-100 bps including a 50-bp hike on 20 April 20 in FY 2011. In its effort to remove the monetary stimulus, the central bank’s actions are likely to remain measured and, in turn, ensuring that the reverse repo rate remains the operative rate in FY 2011. Sujan Hajra: The RBI is likely to go for at least another 25-bp hike in the repo and reverse repo rates in the policy meet on 20 April 2010. Krupesh Thakkar: We expect a cumulative hike of at least 100 basis points (bps) in key policy rates and 75 bps in CRR in the current fiscal, with expectation of a possible 25-bp rise in the repo and reverse repo rate in the coming policy meet. Is growing food inflation becoming an obstacle for growth? Manoranjan Sharma: Monetary policy can have only a limited impact on managing food inflation. Sumita Kale: Inflation eats away at household budgets, negating the positive impact of growth. The need to overhaul the pricing policies, distribution strategies, and raise productivity have all been well known for many years now. The political will to make these changes is needed urgently now. Krupesh Thakkar: The short-term interest rates on commercial paper and corporate deposits could go up in the near term. So the yield curve would get steeper suggesting two things: economy growth for a longer period and high future inflation. This, in turn, will result in upward pressure on long-term rates to attract savings. What are your expectations on inflation numbers amid the faster-than-expected recovery in industrial production? Manoranjan Sharma: Inflation would continue to be at a high level for the next two months but gradually fall because of mutually reinforcing dynamics of good rabi crop, lagged effect of monetary tightening measures by the RBI and the base effect. Sumita Kale: There has been a upsurge in prices of commodities such as crude, steel and rubber globally, not just in India, this year. Clearly inflationary pressures cannot be ruled out over the year. The Wholesale Price Index estimates will trend down over the year touching 5%-6% by December 2010. Krupesh Thakkar: With better prospect

1. InFocus
Annual monetary policy
Tightening the purse strings
Economists expect hike in interest rates in the current fiscal
The Reserve Bank of India (RBI) is due to remain measured and, in turn, ensuring that Manoranjan Sharma: Inflation would
unveil the annual monetary policy statement the reverse repo rate remains the operative continue to be at a high level for the next
for the fiscal ending March 2011 (FY 2011) rate in FY 2011. two months but gradually fall because of
on 20 April 2010. The challenges facing the Sujan Hajra: The RBI is likely to go for at mutually reinforcing dynamics of good rabi
central bank are managing the recovery as least another 25-bp hike in the repo and crop, lagged effect of monetary tightening
well as maintain price stability with the faster- reverse repo rates in the policy meet on 20 measures by the RBI and the base effect.
than-expected recovery in industrial April 2010. Sumita Kale: There has been a upsurge in
production and inflation. Capital Market’s Krupesh Thakkar: We expect a cumulative prices of commodities such as crude, steel
Yogesh Kulkarni and Vijay Ghutukade, hike of at least 100 basis points (bps) in key and rubber globally, not just in India, this
quizzed Manoranjan Sharma, Chief policy rates and 75 bps in CRR in the current year. Clearly inflationary pressures cannot
Economist and Deputy General Manager, fiscal, with expectation of a possible 25-bp be ruled out over the year. The Wholesale
Canara Bank; Sumita Kale, Chief rise in the repo and reverse repo rate in the Price Index estimates will trend down over
Economist, Indicus Analytics; Indranil Pan, coming policy meet. the year touching 5%-6% by December 2010.
Chief Economist, Kotak Mahindra Bank; Is growing food inflation becoming an Krupesh Thakkar: With better prospects
Sujan Hajra, Chief Economist, Anand Rathi obstacle for growth? for rabi crop harvesting, normal monsoon
Financial Services; and Krupesh Thakkar, Manoranjan Sharma: Monetary policy and stabilising global prices of commodities,
Research Analyst, India Capital Markets, on can have only a limited impact on managing especially oil, we expect inflationary
the options for the central bank. Excerpts: food inflation. pressures to ease.
Sumita Kale: Inflation eats away at Will the clamp-down on money supply
Higher inflation is raising anxiety. What household budgets, negating the positive affect credit offtake?
should the RBI do? impact of growth. The need to overhaul the Manoranjan Sharma :The RBI should
Manoranjan Sharma: The RBI should pricing policies, distribution strategies, and actively manage liquidity to ensure that credit
continue with its stance of monetary raise productivity have all been well known demands of productive sectors are adequately
tightening throughout this calendar year. We for many years now. The political will to met consistent with price stability and
see all rates — cash reserve ratio (CRR), make these changes is needed urgently now. maintain an interest rate environment
statutory liquidity ratio, repo and reverse Krupesh Thakkar: The short-term consistent with price and financial stability
repo — going steeply up by December 2010. interest rates on commercial paper and and in support of the growth process.
The Raghuram Rajan Committee’s report on corporate deposits could go up in the near Krupesh Thakkar::With improving
the financial sector reforms made a case for term. So the yield curve would get steeper sentiments, both consumption and investment
inflation targeting as done in of the world, suggesting two things: economy growth for demand have been picking up, resulting in credit
including the US and the UK and the a longer period and high future inflation. expansion from both bank and non-bank
European Central Bank. This, in turn, will result in upward pressure sources. We expect bank credit to be above
Sumita Kale: Monetary tightening has been on long-term rates to attract savings. 20% in FY 2011, even after considering
on the cards for a while now. The question of What are your expectations on inflation government borrowing, as there is still enough
timing and quantum of raise at each step over numbers amid the faster-than-expected liquidity in the system.
the year will depend on how the credit flows recovery in industrial production? There is a huge gap between short- and long-
are increasing to the requisite sectors term interest rate. How will rising
and whether capex plans are being What do indicators foretell? interest rates affect corporate
undertaken or not. Inflation has already investment plans?
picked up in manufacturing items. So Macroeconomic signals Manoranjan Sharma: Corporate
rates are warranted to influence 2009-10 2008-09 investment is a function of various inter-
inflation expectations. related forces and factors. While interest
ACTUAL JAN APRIL ACTUAL JAN APRIL
Indranil Pan: The RBI could be rate is certainly a significant factor, it is
POLICY POLICY POLICY POLICY
increasing the reverse repo rate by by no means the only factor.
around 100 bps-150 bps in FY 2011 GDP ^7.2 7.5 6.0 6.7 *7.0 8-8.5 Where do you see the rupee?
over the current 3.25%. Further, we WPI inflation (period-end) 8.5 4.0 1.2 #3.0 Manoranjan Sharma: The rupee will
expect the CRR to rise by around 75 Non-food credit 16.9 16.0 20.0 17.8 24.0 20.0 largely be range bound because of the
bps-100 bps including a 50-bp hike Aggregate deposit 17.0 17.0 18.0 19.9 19.0 17.0 operation of the impossible trinity
on 20 April 20 in FY 2011. In its effort (capital mobility, fixed exchange rates and
M3 money supply 16.7 16.5 17.0 18.6 19.0 16.5-17
to remove the monetary stimulus, the interest rate autonomy). However, there
Figures in %. ^ Advance Estimates (CSO) * With a downward bias, # Below
central bank’s actions are likely to is still some upside for the rupee.
Apr 19 – May 02, 2010 CAPITAL MARKET 1