India's monetary policy focus is shifting to managing recovery and containing inflation from fostering growth after the global downturn, a deputy governor at the Reserve Bank of India said. Shyamala Gopinath said rising food prices were fuelling concerns that they might lead to broader price pressures and the policy challenge was to address the supply-side constraints.
Her comments, which reinforced market expectations of monetary tightening in January, helped push the 10-year benchmark bond yield up 5 basis points on Tuesday to 7.69 percent. It had closed at 7.68 percent on Thursday. Financial markets were closed on Friday and Monday for holidays.
"The near-term policy challenges are clearly conditioned by the evolving growth-inflation outcome that supports shifting the balance of policy focus on managing the recovery and on containment of inflation," Gopinath said in a speech delivered in Bangalore on Monday and released by the central bank on Tuesday.
"Since supply shocks take time to taper off, there is a risk that high inflation in essential commodities could affect inflation expectations over time and give rise to generalised inflation," she said. She said effective assessment of the inflation process and using monetary policy actions at the right time would be critical.
India's food prices rose 18.65 percent in mid-December from a year earlier, data showed last week. Broader annual wholesale price inflation was 4.8 percent in November and some economists expect it to reach about 8 percent by the end of the fiscal year in March, well above the central bank's perceived comfort level of about 5 percent.
Investors are factoring in growing chances of a rise in interest rates in January or soon thereafter. India and South Korea are expected to be among the first Group of 20 nations to follow Australia and raise rates. The RBI's next scheduled policy review is on January 29, but the central bank can change policy at any time.
"Surely they will tighten policy, but the question is whether they will due it before the January policy meeting or at the meeting," said Piyush Wadhwa, senior vice president at ICICI Securities Primary Dealership. Gopinath's comments follow those from fellow Deputy Governor Subir Gokarn on Thursday, who said the January review would focus both on growth and inflation, instead of the previous policy focus on growth.
Most economists polled by Reuters early this month expected the Reserve Bank to start tightening policy by raising banks' cash reserve ratio, or the proportion of deposits that banks must set aside as cash, by the end of January. See "From here on, as we see more stronger and sustained signals of recovery, the RBI will accordingly tighten," said Gunjan Gulati, an economist at J.P. Morgan Chase.
Gopinath said there were expectations of a rise in capital flows into India, but did not say whether or how the authorities might respond. "There is a perception that India may experience surges in capital inflows again, because of easy global liquidity conditions and superior growth prospects of India in the global economy," she said.
Capital inflows of about $17 billion into Indian stocks have helped them surge more than 80 percent this year, prompting speculation that India might join economies such as Brazil and Taiwan that have taken steps to curb inflows. On Thursday, however, Gokarn said inflows were healthy and other officials have also played down concerns about capital inflows.