New Delhi, Oct. 8: Duvvuri Subbarao, the former Reserve Bank of India governor, will probably have the last chuckle.
On Tuesday, the finance ministry forecast inflation based on the wholesale price index (WPI) at anywhere between 6.5 and 7.2 per cent at the end of 2013-14 — a number that is streets ahead of the RBI’s projection of 5 per cent that was made in the first quarter monetary policy review on July 20.
The forecast is also higher than the 5.5 per cent projected by the PM’s Economic Advisory Council headed by C. Rangarajan in its report last month.
For over a year, the finance ministry under P. Chidambaram and Subbarao have clashed over the conduct of the monetary policy.
The former RBI governor had stubbornly resisted pressure from the finance ministry to cut interest rates in order to ignite a stuttering economy. Subbarao had always insisted that inflation was the real bugbear that had to be tackled first. He once said that he was prepared to sacrifice some growth as he used the tools in his monetary arsenal to grapple with runaway inflation.
The growth versus inflation debate erupted in October last year when Subbarao refused to cut rates at a time inflation was riding at 7.32 per cent, prompting Chidambaram to make that withering comment: “Growth is as much a challenge as inflation. If the government has to walk alone to face the challenge of growth, then we will walk alone.”
The inflation forecast put out by the finance ministry today in the quarterly review for April-June prepared by the department of economic affairs indicates that the finance ministry and the Reserve Bank of India under new governor Raghuram Rajan are finally on the same page. And both now view inflation as a serious concern.
“Based on current trends and the wearing of the base effect post October, WPI inflation is expected to be in the range of 6.5 to 7.2 per cent at the end of 2013-14,” the finance ministry’s report said.
It went on to add: “The inflation outlook is likely to be determined by the interplay of commodity prices and the currency as well as the release of suppressed inflation through the revisions in administered prices, particularly of coal, mineral oils and electricity. Price movement in these commodities spills over to the general price-level. Though international commodity prices have generally softened, the domestic prices of petroleum products and other tradable such as metals, edible oils and pulses would be affected by the depreciation of the rupee vis-ŕ-vis the dollar. Estimates reported in the Macroeconomic and Monetary Developments First Quarter Review 2013-14 of the RBI indicate that a 10 per cent depreciation in the rupee lead to a 1.0 percentage point increase in WPI inflation.”
On September 4 when he took charge at Mint Street, Rajan had said: “The primary role of the central bank…is monetary stability, that is, to sustain confidence in the value of the country’s money. Ultimately, this means low and stable expectations of inflation, whether that inflation stems from domestic sources or from changes in the value of the currency, from supply constraints or demand pressures.”
The nuancing may have been slight different, but it was a line that was not at odds with the hawkish monetary stance that Subbarao had adopted since July 2011 when he stunned the markets by using a monetary policy equivalent of a sledgehammer to clobber inflation by raising the benchmark interest rate — the repo — by an unexpected 50 basis points to 8 per cent.
The repo is the rate at which the central bank provides short-term cash to banks.
Rajan sprang his own surprise on India Inc and the markets when he raised the repo by 25 basis points to 7.5 per cent on September 20 during the mid-quarter review of the monetary policy. The move was all the more surprising as it came just two days after the US Federal Reserve held off on its widely anticipated tapering of its quantitative easing programme.
“Recognising that inflationary pressures are mounting and determined to establish a nominal anchor which will allow us to preserve the internal value of the rupee, we have raised the repo rate by 25 basis points,” Rajan had then said.
The RBI did not put out an estimate of growth and inflation in the mid-quarter review. Both estimates are expected to be announced in the second quarter review of the monetary policy on October 29. It will be interesting whether the RBI’s estimate of inflation is as high as the finance ministry’s and whether that will prompt it to raise rates once again.
According to Bhupali Gursale, economist at Angel Broking, the finance ministry’s forecast could be realistic since it is based on current trends. She said the RBI could raise its own inflation forecast by the end of this month.
Gursale said it was clear why the finance ministry had started to worry about inflation. The August WPI number had touched a six-month high of 6.10 per cent compared with 5.79 per cent in the preceding month. The rise in inflation was because of higher fuel and food inflation, with the latter coming in at 18.18 per cent, a three-year high.
She said the one-time hike in prices of petroleum products would exacerbate inflationary pressures.
The RBI is also bracing itself for higher than anticipated inflation this year. This can be gauged from its observations in the mid-quarter review of monetary policy on September 20. “The current assessment is that in the absence of an appropriate policy response, WPI inflation will be higher than initially projected over the rest of the year,” the RBI had said.
The finance ministry expects economic growth to improve to 5.5 per cent this fiscal from 5 per cent last year on the back of a likely pick-up in agricultural output owing to good monsoons and steps taken to boost growth.
The economy grew at a four-year low of 4.4 per cent in April-June this fiscal. In 2012-13, growth was at a decade-low level of 5 per cent.