The risks to orderly growth arise from persistently high inflation - with Government all along trying to brazen it out -, output gaps especially in agriculture in relation to rising demand, infrastructural weaknesses, credit quality issues in the banking system, widening of current account deficits, volatile capital flows and contagion effects of sovereign debt crisis in peripheral countries of the Euro-zone. On a larger plane, the Government has other major business including implementation of reform measures and enactment of land and other laws to promote socially-oriented development. This would depend on Parliament becoming functional.

The Finance Minister Mr Pranab Mukherjee has gone through the routine pre-budget discussions. The Budget is due for presentation on February 28.Of immediate significance will be the RBI Third Quarter (Oct-Dec) Policy Review on January 25 setting out the macro-economic trends and the monetary policy measures needed to contain inflation - which has now become a major issue for central bankers all over, especially Asia - and regulatory steps to strengthen financial stability and external balances.

First inflation. This is where Government credibility has suffered the most. Foodgrains price (chiefly rice) inflation in double digit originated in 2008-09 and continued well into the first half of 2010-11. All that was done in the early months of 2009 was to ban export of one thing and/or remove duty on the import of another. That was all to it, Drought later on came handy to blame for food price inflation in 2009-10. Other excuses were in store for inaction through months of soaring prices. The Prime Minister and others were assuring all the time of comfortable stocks providing food security. No impact on prices.

The Deputy Chairman of the Planning Commission dismissed inflation as “middle class hype” because they did not like farmers getting higher prices. At regular intervals, the top economist in the Finance Ministry set deadlines for fall in inflation (not prices, the index) due to “base effect” and not on account of any strong measures from the Government to flood the market with supplies and defeat forces of hoarding and profiteering. None of the deadlines worked. Cereal prices having risen by.40 to 80 per cent long before the drought have stayed at that level ever since.

That these prices did not increase further is now taken as fall in food inflation and claimed to be the result of “effective steps” taken by government. Beyond “closely monitoring” prices, we were not told of any market intervention or getting the states to act against hoarders and profiteers till now. The complacency, however, was short-lived as the dreadful onion crisis erupted and Government dare not slip any further with public anger boiling over. The Prime Minister held inter-ministerial emergency meetings and on January 13,a press release from the Prime Minister’s office detailed the steps proposed to augment supplies of food articles, particularly onion, and other measures including “stringent action” against hoarders and so on. This is the first time Government has spelt out what it is trying to do at least.

Unlike Government’s flawed approach of looking only at headline inflation, ignoring the reality of hundreds of millions hit by foodgrain and other consumer prices, RBI has followed a calibrated approach in monetary policy tightening to manage inflation, taking due note of food prices, which were getting transmitted into manufactured goods and other sectors. The modulated responses, without disrupting the growth process, have, however, had only limited effect, as food price inflation is mainly a structural problem resulting from long-term neglect of agriculture and associated supply constraints.

Going beyond inflation which calls for stiff increase in key policy rates which are considered still low in real terms, RBI has to address emerging risks to financial stability through regulatory measures. India tops the list of emerging economies facing inflationary pressures and the upswing in global prices of major commodities, oil and food would also be feeding into domestic inflation. The structural nature of food price inflation has also been highlighted by IMF and the World Bank which have called for reforms designed to ease supply situation durably and contain food price inflation. There is scope for monetary tightening as the economy is already operating to capacity.
In the recent phase of robust credit expansion, banks appear to have over-extended their exposure to infrastructure and real estate sectors while some asset—liability mismatches also need to be monitored. Problems have also arisen in the bank-assisted micro-finance sector where the micro-lending institutions face defaults from the small borrowers unable to bear the high interest rates. Thus, financial stabilisation issues have become urgent.

The Financial Stability report of RBI, published recently, has called attention to the widening of current account deficits, volatile components like short-term credit and portfolio flows dominating capital flows, and a general deterioration in external sector ratios. Recent data show a decline in net invisibles, a swift rise in external debt, and a faster growth in net external liabilities. These are potential risks requiring strong policy actions.

RBI will maintain the growth rate of current year (2010/11) at 8.5 per cent, which is now accepted universally. IMF has projected 8.75 per cent but for the next year, there would be some moderation from this level. While RBI raised its estimate of year-end inflation to 6.5 per cent from 5.5 per cent earlier, the annual rate of inflation may be close to 7 per cent by March end, according to economists.

In the week ending January 1, 2011, the wholesale price index for food articles had risen by 17.34 per cent on top of the 21.59 per cent in 2009/10 though this reflected largely rise in prices of vegetables, fruits, fish, chicken, certain varieties of pulses, condiments and spices. The WPI for December had risen to 8.43 per cent from 7.48 per cent in November with food articles at 14.24 per cent in the current fiscal year (nine months) over the 21.39 per cent in April-December 2009. (IPA Service)