The Hindu Business Line : Wait-and-watch policy

The backdrop against which Dr Y. V. Reddy has presented the Annual Policy Statement is a marked slowdown in the economy. The outcome of the global market meltdown due to the subprime crisis has started to take its toll on India, albeit slowly. Despite the moderation, an 8.7 per cent GDP is still impressive and one of the fastest growing in the world.

Additionally, the fundamentals of the economy are strong as it is domestically-driven and the recent slowdown in foreign inflows and the appreciation of the rupee will not affect long-term growth. The stock market has remained volatile over the past few months and has remained bearish recently amidst speculation of the possible preventive measures that the RBI could undertake to curb domestic demand.

Rising inflation

The major concern for the authorities has been the rise of inflation in recent months. Inflation reached its peak at end-March 2008, touching a high of 7.4 per cent. The rise in inflation has been attributed to the supply-side effects primarily driven by the increase in the prices of food and crude oil. Commodity price increases is a global phenomenon, though the three successive CRR hikes to 8.25 per cent will have a lagged effect on containing inflation. The objective is to drain out the excess liquidity in the market and slow demand, thus reducing prices. Hopefully, a good monsoon will have a moderating effect on inflationary expectations.

The RBI is using a wait and watch policy by leaving the other monetary policy instruments untouched for the moment. The central bank may be concerned that in trying to control demand it may have an adverse effect on growth of the economy. Already, the index of industrial production (IIP) has come down to 8.7 per cent in 2007-08 (April-February) as compared to 11.2 per cent in the corresponding period last year.

Housing loans

The decision to increase the limit on housing loans given by banks from Rs 20 lakhs to Rs 30 lakhs to qualify for a 50 per cent risk weight is prudent. This will encourage more housing loans and augurs well since the demand for home loans continues to remain strong. Other salutary measures include the proposal for a clearing and settlement arrangement for over-the-counter rupee derivatives and the introduction of currency futures. Furthermore, the policy stresses on financial inclusion but without compromising on credit quality and delivery. Overall, the markets have reacted positively to the policy. But, clearly, the cautionary tone is that if there is no easing on inflation in the ensuing weeks, one could bet that Dr Reddy may toughen his stance prior to the next policy review.

(The author is Treasurer, HDFC. His views are personal.)

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