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Rediff.com  » Business » RBI paints grim picture of economic recovery

RBI paints grim picture of economic recovery

August 28, 2009 03:50 IST
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Amid the green shoots being sighted the world over, the Reserve Bank of India has painted a grim picture and laid bare the dilemma of low growth and high inflation that it faced in the months ahead.

In its annual report for 2008-09, released on Thursday evening, the biggest concerns were deficient rains and the prospects of rising prices that could spoil the progress towards normalcy. The central bank refrained from making any changes to its economic growth projection of 6 per cent with an upward bias. But it added, "Since the presentation of the policy statement (at the end of July), while the extent of rainfall deficiency associated with the South West monsoon has increased, the IIP (index of industrial production) figures for June 2009, released in August 2009, show significant recovery in industrial output."

It talked about the prospects of a slower growth in domestic savings, partly due to a high level of fiscal deficit. Besides, the central bank said despite signs of improvement, bank lending remained tight and their balance sheets needed further cleaning.

RBI also said the housing markets were yet to bottom out and it could take a while for trade, capital flows and inward remittances to return to their "normal levels".

The other worry, it said, arose from protectionist barriers which could affect the export of goods and services and have further indirect impact on remittances and foreign capital inflows.

The biggest fear was weak rains that could impact rural demand, exert additional pressure on already rising food inflation and force the government to step up already high levels of spending. What could also add to inflation was a rebound in global commodity prices.

The central bank said the external sector outlook had improved in recent months but the increase in international crude oil prices could exert some pressure on trade and current account deficits.

Also, subdued export demand could hamper industrial growth since the service sector could be affected by the lag effects of the slowdown that affected manufacturing, RBI said in its assessment and prospects for the Indian economy during the current financial year.

Within the overall economic environment, RBI identified four key policy challenges starting with the "unpleasant" combination of subdued growth and the risk of high inflation.

"In such conditions, while withdrawal of monetary accommodation entails the risk of weakening recovery impulses, sustained accommodation and the associated protracted phase of high money growth can only increase inflation in the future," the central bank, which has lowered key policy rates over the last 10 months said.

The second challenge was the large government borrowing programme of Rs 4,51,000 crore and the high fiscal deficit, budgeted at 6.8 per cent of GDP during the current financial year. Third, RBI said private credit should grow. In recent months, the growth in bank credit has fallen to under 15 per cent partly due to lower demand as also due to reluctance of banks to lend.

It also warned that the with the return of capital inflows to the pre-financial crisis level and revival in demand for credit from the private sector, the costs of any delay in withdrawal of monetary accommodation and fiscal consolidation could rise.

In this context, RBI said, timing the exit from the current accommodative policy would be crucial.

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