RBI hikes rates further to fight inflation; signals more increases
Moneylife Digital Team 16 June 2011

The Reserve Bank of India raises repo rate and reverse repo rates by 25 basis points. This is the 10th time that the central bank has hiked key policy rates since March 2010

The Reserve Bank of India (RBI) raised interest rates on Thursday for the 10th time since March 2010, saying it would continue to deal with stubbornly high inflation while balancing the adverse movements with global developments and their likely impact on domestic growth.

The RBI hiked the repo (short-term lending) and reverse repo (short-term borrowing) rates by 25 basis points each, which was in line with market expectations. The repo rate now stands at 7.5% and the reverse repo rate at 6.5%.

The marginal standing facility (MSF) has also gone up by 25 basis points to 8.5%. However, RBI has kept the cash reserve ratio (CRR) steady at 6%.

Today's rate increase followed a sharper-than-expected 50 basis point rate increase in early May.

"Notwithstanding both signs of moderation in commodity prices and some deceleration in growth, domestic inflation risks remain high," the central bank said in its mid-quarter policy review. "Against this backdrop, the monetary policy stance remains firmly anti-inflationary, recognising that in the current circumstances, some short-run deceleration in growth may be unavoidable in bringing inflation under control."

Headline inflation stood at over 9% in May, much above the central bank's comfort level of 5%-6%. The policy initiative, the RBI said, "is expected to contain inflation and anchor inflationary expectations by reining in demand side pressures."

"Domestically, inflation persists at uncomfortable levels. Moreover, the headline numbers understate the pressures, because fuel prices have yet to reflect global crude prices," the RBI said. The measures would help in mitigating the impact of "potentially adverse global developments."

The main drivers of inflation in April-May 2011 were non-food primary articles, fuel and non-food manufactured products. Non-food manufactured products inflation stood at 8.5% in March, and it increased from 6.3% in April to 7.3% in May 2011, much above its medium-term trend of 4%.

"This pattern in non-food manufactured products inflation is a matter of particular concern. Besides reflecting high commodity prices, it also suggests more generalised inflationary pressures (and that) rising wages and costs of service inputs are apparently being passed on by producers along the entire supply chain," the RBI said.

Food inflation, however, declined marginally to 8.96% for the week ended 4th June from 9.01% in the previous week. The RBI said that given the recent pattern, the inflation numbers for April and May are likely to be revised upward.

It pointed out that the impact of its recent policy initiatives was still unfolding. With inflation expected to only get uglier in the coming months, particularly if the government decides to raise the price of diesel and cooking gas to ease the cost of subsidies, the RBI will only have to persist with its anti-inflationary stance.

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