Time to stop the chorus against RBI rate hikes

The chorus of voices against a rate hike is getting far too loud. And it is dangerous both for the cause of reining in high inflation, and guaranteeing the independence of the Reserve Bank of India (RBI).

A few days back, the Department for Industrial Promotion and Policy (DIPP) in the commerce ministry wrote to the RBI asking it to desist from raising rates. This is a strange and unheard of step.

Finance ministry officials have never missed a chance to similarly advise the RBI. And now a committee of parliamentarians has told the governor not to hike rates when he deposed before it.

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Parliament is a law-making body and the RBI’s authority comes from it. Yet, as the guardian of the longer-term interests of the nation, and which has the expertise to take a call on interest rates, the RBI’s independence on matters of rate setting is necessary for the health of the economy.

[caption id=“attachment_110557” align=“alignleft” width=“380” caption=“High rates are a much smaller disincentive to growth than erratic government policy, politicking and corruption. Reuters”]  [/caption]

One would assume the governor would have strongly informed parliamentarians about the donwside of continuing inflation. While their tears over growth are well taken, India, or for that matter any country, can post strong GDP growth only when prices are reasonably stable. High rates are a much smaller disincentive to growth than erratic government policy, politicking and corruption.

Also, a big input to inflation has been the government’s runaway fiscal deficit. From around Rs 1,50,000 crore in 2007-08, the fiscal deficit has ballooned to over Rs 4,00,000 crore per year in the past three years. This creates massive aggregate demand and has been a big factor in boosting inflation over the last three years.

The push to rural demand through the National Rural Employment Guarantee Act (NREGA) has come on top of decades of agrarian neglect. In the past 10 years, the compounded annual growth of agricultural output has been only 1.8 percent. It’s not surprising then that when a stagnant pool of foodgrain output is chased by rising wages, it has inflated food prices by over 40 percent in the past few years.

It is important that parliamentarians ponder over these long-term issues of neglect instead of attacking the independence of a central bank which has but only one instrument to tackle inflation. Sure, they can express their concerns about growth. But the chorus against rate hikes is getting worrisome.

It is important for the RBI to maintain its anti-inflationary stance when the WPI has been over 9 percent for the past 10 months and over 8 percent for 18 consecutive months. Such structural inflation can reverse the country’s healthy savings growth too, as people see the value of their savings being dented by inflation.

India’s long term growth trajectory can be endangered if parliamentarians and bureaucrats in Delhi don’t see the real dangers to growth - sustained inflation and bad policies, and the real triggers of inflation. These include runaway deficits and neglect of agriculture and infrastructure. Rate hikes are not the main villains.