Moderation in growth is an inevitable price for inflation: RBI governor

Reserve Bank of India governor D Subbarao surprised the market by hiking key policy rates by 50 basis points against the anticipated 25 basis points in a bid to contain inflation, which rose an annual 9.44% in June. He explains the rationale behind the hawkish stance. Excerpts:

If one reads your policy statement, many negatives points come across. The RBI is feeling negative about the state of the economy. Could you please tell us why was growth not pegged below 8%?
There are positive sides also in the macroeconomic situation. First of all, we have to understand that certain moderation in growth is an inevitable price that we have to pay for bringing down inflation in the short term. But it is something that will make growth in the medium term sustainable. As far as growth is concerned, private consumption is quite strong.

The recent consumer expenditures show that wages have gone up 20% last year, as against consumer price inflation, which was less than 10%. Government consumption is largely insensitive to short-term movements in interest rates and fiscal deficit will be there providing the demand. Net exports are doing well.

Only thing that is affected is investments. If we look at agriculture, last year the growth was good. This year on a high base growth will be lower than last year. But rainfall, so far, has been reasonably okay. Services sector is doing quite well. That is why growth was pegged lower than 8%.

What would you construe as a significant fall in growth?
I want to reassure all of you that growth is never far away from our policy radar. We are always concerned about it. But we have to weigh a balance between growth and inflation. If we consider that 8% has been the growth trend and if consistently growth falls below that then perhaps the balance would shift.

Are we now overcompensating for what we probably did not do at the early part of the rate hike cycle? Did we underestimate inflation?
At each point of time since April 2010, we tried to balance the requirements of growth and inflation. So, in the beginning, as we started tightening we did that at a moment of uncertainty around the world. We had to support growth so we could not raise rate abruptly. That is the reason we took baby steps.

Since April 2011, of course, we had done 50 basis points rate hike (in one go) because there are some unanticipated factors.

The market was looking for some kind of pause in rate hikes. While the policy statement continues to be quite hawkish in stance. Is that a conscious choice?
Until we see a sustained downward trend in inflation, we will have to pursue our anti-inflationary stance. It is difficult at this time to define exactly what the calibration will be going forward. As long as inflation persists, there will not be any significant change in our stance.

This time, did you base your decision on the macroeconomic data that you sometime back said was unreliable and subject to frequent revisions or did you take a different view of it?
I have identified in the statistics that there are some handicaps that we face in having right data for policy purposes. But like all analysts we also have tried to flip behind the numbers and have our own interpretation on how those numbers can be adjusted.

In your expected outcomes you said that there is a need to maintain the credibility of commitment of monetary policy controlling inflation. Is it that the efficacy of monetary policy actions is now being questioned?
It is to reaffirm that the RBI’s stance is committed inflation management. As far as what the government needs to do to manage inflation, we have said that quite explicitly. Supply response coming in from the food and infrastructure sector.

Fiscal deficit should be maintained at the current level and in the future should fiscal consolidation take place then it will help demand management and inflation management.

Will the RBI resort to more tools to manage the government borrowing programme like the open market operations (OMO)?
At this time we cannot say. But the government’s borrowing programme stands as the way it was. If we find it necessary, only then will we do OMO. But at this time there are no plans.