Credit policy: Government must walk the talk

AMARESH SAMANTARAYA | Updated on November 09, 2017

The Reserve Bank of India (RBI) announced its Third Quarter Review of Monetary Policy 2010-11 on January 25. Consistent with market predictions, the repo and reverse repo rates under the LAF were raised by 25 basis points each.

The rationale for the policy move is stated to be containment and to prevent food and energy prices from spiralling over into generalised inflation and anchoring inflation expectations.

The baseline projection of WPI inflation for March 2011 has been revised upwards to 7 per cent. Continuous upward revision of inflation projections in the series of RBI Reviews this year is contrary to the assurances given by the Prime Minister, the Finance Minister and other senior authorities in the past that inflation would come down to an acceptable level. Of course the goal-post in terms of the due date kept shifting forwards.

Sceptical on impact

Some analysts are sceptical about the impact of the above RBI policy initiative to actually arrest current inflation, given the role of supply-side factors.

The RBI seems not to be in disagreement with this view. This becomes apparent from the response of the Deputy Governor, Dr Subir Gokarn, to a question on a mere 25 bps increase in policy rates, while inflation projection is at 7 per cent. He rationalised that inflation projection is a simple reflection of stronger supply-side forces, while policy action is in conformity with modest non-food manufacturing inflation — the indicator of demand pressure.

An argument for policy action, despite the supply-side characteristics of current inflation, comes from another source. The rationale becomes apparent if we read between the lines as regards the RBI's inflation analysis.

It is stated that food inflation is not limited to few items affected by unseasonal rains in some parts of the country, but that substantial increase in prices of several food items was observed even though their production was not affected.

Moderation in food price inflation as expected during a normal monsoon year did not occur; rather there has been sharp increase. This somewhat implicitly brings to the table the issue of the possible role of speculative and hoarding activities of traders in creating and sustaining high food inflation.

To the extent availability of easy money is fuelling such speculation and hoarding, a tight money policy will help discourage such activities. However, what will be more effective is micro-level assessment of misuse of banking funds by traders and taking up the issue with the banks to be vigilant in this regard.


A large part of action to discourage hoarding has to come from the Government, moving beyond the compulsions of coalition politics.

To address structural issues related to current food inflation, the Government has to undertake urgent policy measures so that agricultural production is scaled up to minimise the supply-demand gap.

No more brainstorming sessions and lip service will help. It is time for action. It is time for building dams, inter-linking of rivers and better water management so that the losses to agriculture because of droughts and floods are minimised.

While the increased purchasing power of rural households, thanks to MGNREGA, is welcome, it is also imperative to ensure the availability of adequate provisions to be bought with this added purchasing power.

The Government should also wake up to the RBI's alert on surging current account deficit and its financing pattern, as also its own finances. Desired actions on capital flows, particularly on ‘participatory notes' will also address some of the concerns raised by the Supreme Court on ‘black money'.

(The author is a Reader, Department of Economics, Pondicherry University, Puducherry.)

Published on January 26, 2011

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