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Thursday, May 19, 2011

Inflation worries to prompt aggressive rate hikes !

High fuel and commodity prices will keep India's troublesome inflation levels elevated, while the Reserve Bank of India (RBI) will raise interest rates more aggressively than economists expected just three months ago, a Reuters poll showed.

In the poll taken last week, the wholesale price index (WPI) , India's main inflation gauge, showed prices are expected to rise by an average 7.7 percent for the fiscal year ending March 2012, a sharp increase over the 6.4 percent seen in January's poll, before easing to 6.0 percent in the next fiscal.

Much of the poll was conducted before Tuesday when the RBI raised interest rates by a bigger-than-expected 50 basis points and said it was ready to trade off some growth in the short run in order to rein in prices.

The surprise move also prompted economists to pencil in more rate hikes than indicated by them in last week's poll.

The RBI appears "ready to tolerate slower near-term growth, but not higher inflation, as the latter will derail long-run growth prospects," said Sonal Varma, India economist at Nomura.

However, focusing only on aggressive monetary tightening, at a time when growth indicators are already faltering, could choke growth with only a limited effect on inflation, she added.

India's inflation soared to nearly 9 percent in March, well above the RBI's projection of 8 percent for the final month of the last fiscal, due to surging food and global fuel prices.

The RBI, on Tuesday, also revised its inflation projection for the year and now expects it to remain elevated near March levels in the first six months starting April, before easing in the second half.

The poll showed WPI is now expected to top 8.0 percent in every quarter of 2011 with the biggest upgrade to the quarters ending September and December where forecasts have been pushed up to 8.6 and 8.5 percent respectively versus the 6.9 and 7.0 percent in the January poll.

In stark contrast to India and China are richer nations like the U.S., UK and euro zone where monetary policy is still highly accommodative and inflation concerns are only now beginning to filter into policy making.

After nine increases in the repo rate since March last year, the RBI is expected to follow up with more hikes in a bid to tame India's rampant rate of inflation.

Ten of the sixteen economists, who gave forecasts for the repo rate, said the RBI would raise rates again in June by at least 25 basis points. Economists now expect the repo rate to reach 8 percent by December, 100 basis points above what was predicted in the January poll.

"This rate hike is significantly higher than expectations and reflects strong concerns of inflation on part of the central bank. They are out of the baby steps into the aggressive mode," Sujan Hajra, chief economist, Anand Rathi Financial Services, said after Tuesday's policy.


India's gross domestic product is expected to rise 8.3 percent in the year ending March 2012, lower than the 8.5 percent expected in the January poll.

Industrial output in February slowed to 3.6 percent dragged down by a contraction in capital goods output, which shrank 18.4 percent compared with a nearly 47 percent expansion in the same period last year.

"The RBI's rate actions could mean a few years of growth at or below trend as a necessary evil to contain inflation and inflation expectations," said Nomura's Verma.

Even so, growth was expected to stay above 8 percent in every quarter of 2011, and clocking 8.5 percent in the fiscal ending March 2013.


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