Expansionary policy must end soon on price concerns: RBI

Expansionary policy must end soon on price concerns: RBI
The Financial Express, September 11, 2009, Page 1

fe Bureaus, Mumbai

Reserve Bank of India (RBI) governor Duvvuri Subbarao on Thursday said India would have to exit its expansionary policy sooner than other countries, setting off expectations of a rise in interest rates before the end of calendar 2009. However, he did not offer a timeline for such a change in stance.

“India may have to make a judgement on exit sooner than other countries as inflationary pressures are showing up,” said Subbarao at the Ficci-IBA annual conference on ‘Global Banking: Paradigm Shift’ on Thursday, adding that the timing and sequence of such actions were crucial. “It is not as if I know when we are going to do it and I am not telling the market,” he said.

Subbarao’s comments again threw into stark relief differences between the central bank and the finance ministry on the subject. Just a day earlier, finance secretary Ashok Chawla said withdrawal from the accommodative monetary position would have to wait.

“The consensus from all around the table from the G-20 countries (is) that this is something which has to wait… that the recovery, which is taking place, is still very tentative,” he told a television channel. Chawla said there was need for more clarity that the situation is back to normal “before we can start really seriously considering the exit options”.

Subbarao also made clear his differences with the Percy Mistry and Raghuram Rajan committees’ recommendations on bringing all trading of financial products, including the government debt market and foreign exchange market, under Sebi. He said this is an arrangement that has stood to the test of time and protected India’s financial stability even in the face of severe onslaughts. “This is an arrangement that we should not jettison lightly in the quest for a unified market regulator.”

The RBI governor also acknowledged that any exit strategy by India would have to be coordinated with other central banks. According to him, the government’s high fiscal deficit made it much more difficult for RBI to maintain price stability.

“While the current crisis has shown that price stability is not sufficient to ensure financial stability, price stability is decidedly a necessary condition for financial stability. Higher inflation could also push the yield curve upwards. This could result in significant mark-to-market losses for fixed-income instruments with potentially adverse implications for banks’ profitability. This again could impair financial stability,” he said.

He said preserving and strengthening financial stability is a complex challenge. “We need to take measured and timely action, and make a balanced judgement--not to be too benign, but also not go overboard with excessive or premature tightening. There is a concern in some quarters that the crisis may have dented our enthusiasm for financial sector reforms. I believe that concern is misplaced. We will not slow down on reforms, but will surely rework the road map to reflect the lessons of the crisis.”

RBI is conscious of the need to pay increasing attention to financial stability and to improve its skills in this area. “As a beginning in this direction, we have set up a multi-disciplinary financial stability unit in RBI and are planning to put out a regular financial stability report. The first report is planned in the next few months. These reports will present an overall unified assessment of the health of the financial system with a focus on identification and analysis of potential risks to systemic stability,” he said.