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Watching inflation, monsoon to decide interest rate: Rajan

RBI monthly monetary policy

New York : RBI is closely watching inflation data as well as monsoon rain forecasts for deciding on further interest rate cuts and the monetary policy still remains in the “accommodative mode”, Governor Raghuram Rajan has said.

Rajan, who had earlier this month cut interest rates by 0.25 per cent to 6.5 per cent, did not give any indication as to how much or by when further rate cuts would take place.

“We are watching the development of inflation and we are also looking for signs of a good monsoon. As evidence builds up one way or the other, it will give us more information of how the trajectory of the monetary policy will be,” he said at the Inaugural Kotak Family Distinguished Lecture at the Columbia Law School here yesterday.

Consumer price inflation eased to 6-month low of 4.83 per cent in March from a year earlier. It was 5.26 per cent in February. Rajan wants to limit inflation to 5 per cent by March 2017 and good monsoon will lead to higher crop output.

“We are still in accommodative mode but precisely how much and when we will have to see,” Rajan said to a question on impact of monsoons on interest rates at the lecture.

After two years of drought, the weather department last week forecast the first above-average monsoon in three years.

Rajan said monetary policy cannot be coordinated that easily. “But really what we are talking about is the rules of the game for monetary policy. One should see how much one can do and how much is beneficial to us without imposing a huge cost on the rest of the world.”

He said a six-member monetary policy committee will be in place to decide on interest rates.

“I will no longer be setting the interest rates in India. The committee will be setting,” he said, adding that the virtue of this is that there are “six minds that come together to decide policies rather than one, there is continuity in the committee. It means the committee is much harder to pressurise if you want a particular outcome than any single individual”.

MPC, which will include RBI Governor and three nominees of the government, will set interest rates to bring consumer or CPI inflation to pre-set targets. It will come into being after the Finance Bill 2016 is passed by the Parliament.

Each member shall have one vote and in case of a tie, the Governor shall have a second or casting vote. The governor will not have a veto power. Presently, the Governor has overriding powers on monetary policy.

On FDI inflows, Rajan said India is this year on its way to “our highest ever inflow of FDI”.

While the government has removed most of the impediments to inviting FDI, he said there is still “some hesitancy” on part of the foreign investors with the retrospective tax case on Vodafone. “This is an unfortunate thing that happens when you focus” on a few iconic instances.

Prime Minister Narendra Modi and Finance Minister Arun Jaitley have said very clearly that there will be no retrospective taxation, he informed the audience.

Since the Vodafone case is already in the judicial system, to pull it back right now, “it would look like something was not a problem. That’s my view of it. It has to follow the natural course,” Rajan said.

Vodafone still has not paid “a penny” of what was demanded but it is not as if it is in great difficulty as a result of what happened. “In fact they are investing more in India,” he said.

People look at “iconic reforms” like the Goods and Services Tax (GST) and at privatisation and feel that these two are the measures of “whether you are reforming.

“There is lots else happening that people are paying less attention to,” he said citing the example of the Aadhaar programme.

“Things are moving. Things are changing. FDI is coming in. FDI makes money in India unlike elsewhere,” he said adding that the Prime Minister has “rolled out the red carpet” for investors through his visits abroad.

Rajan emphasised that while India is growing at a good pace, it has the potential to do even better.

“Despite our growing much faster than the rest of the world, the real issue is the rest of the world is growing fairly slowly. Not that we are growing that fast, this (growth) is reasonable by our historical standards but not spectacular,” he said.

He cited Jaitley’s remarks that India is capable of faster growth.

“One should not think this is it,” he said, adding that while India is doing relatively well, the “ideal” will be if the world picked up and grew much more strongly.

He pointed out that India grew very fast between 2003 and 2012 at about 8 per cent.

“What happens when you grow at that pace is sometimes we grow fast enough to outrun the institutions you had for slower growth. We hadn’t grown at that pace before in our history. We outran things like acquiring resources,” he said.

Since the financial crisis, India has been engaged in a process of rebuilding the institutions, rebuilding transparency in allocation of resources and creating a modern monetary framework, he said.

On inflation, he said the most recent figure for the month of March stood at 4.8 percent, which was below the 5 per cent target set by RBI for March 2017 and on track towards the four per cent targeted after that. “One of the virtues of getting a low and stable inflation rate is that it will also stabilize the currency.”

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