The Hindu Business Line : RBI concern over swelling asset prices, credit

The RBI's report on Currency and Finance - 2004-05, released today, said "while rising inflation is no longer a major concern, excessive increase in asset price and credit have emerged as a major challenge facing the central bank as strong swings in asset prices can lead to financial instability."

Though not explained in detail in the report, RBI has been cautioning the rising price of assets - particularly real estates and stocks - and banks' exposure in these sectors.

To handle such emerging situations, the report underlined the importance of the central bank pursuing market-driven strategies and policies that are stable and forward looking to anchor expectations.

However, it also pointed out that in a liberalised and integrated financial system, market discipline is more important than regulation, and that calls for better risk analysis systems.

Hardening oil prices

The central bank has also sounded a warning regarding the pass through effects of hardening oil prices.

"The pass through of high international crude oil prices to domestic prices remains incomplete, as it has been restricted only to petrol and diesel... .The possibility of a higher second round effect in the context of high and volatile oil prices and its implications for inflation expectations continue to be a matter of concern for central banks," the report said.

Another area of challenge for RBI in the medium term is managing liquidity in the context of large capital inflows.

On a more positive note, the report has quoted Central Statistical Organisation's advance estimates released on February 7, 2006, which puts the real GDP growth rate for 2005-06 at 8.1 per cent (base year 1999-2000). This is close to the growth projections of the RBI.

Positive outlook

RBI has projected a positive outlook for the industrial sector in the backdrop of robust expansion of non-food credit, which increased by 27.6 per cent during 2004-05. The advance estimates for 2005-06 (1999-2000 prices) have placed growth rate in industry at 8 per cent.

Allaying fears about the widening current account deficit, the RBI in its report said, "It is expected to remain within acceptable limits that can continue to be financed by normal capital flows".

About FII inflow, the report said that a series of India centric funds being floated overseas reflect that the FII inflows are likely to remain robust in the near term.

On the RBI's role on financial regulation, "In future the regulatory and supervisory role would not only be friendly and frank but also prompt and firm."

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RBI concern over swelling asset prices, credit