The credit policy aims to maintain an interest rate environment that moderates inflation and anchors inflation expectations. After Tuesday’s 50-basis-points (bps) rate hikes, we expect another 25 bps hike in September. It is only if inflation peaks in September that we expect the Reserve Bank of India (RBI) will be able to stop in October. Given rates are now so high, we expect RBI to cut these as soon as possible. At this point, we do not see this happening till mid-2012, as inflation is not likely to come off to the level of 6.5-7 per cent till March 2012. The 50 bps rate hike surprised most market participants. One-year OIS (overnight indexed swap) rates moved up by 22 bps, while the five-year OIS rates moved up by 12 bps. Ten-year G-Sec yields jumped 12 bps from 8.30 per cent to 8.42 per cent and 10-year corporate bond yields also moved up by 10-12 bps. The rupee remained largely unchanged. We have to accept some sacrifice in terms of growth on Tuesday to bring inflation down and ensure higher growth tomorrow. Our channel checks suggest growth is likely to slow to 7.5 per cent levels from 8.5 per cent levels. After all, we are seeing a peak off in loan demand that is a pretty good lead indicator of economic activity. This, of course, is still very respectable, but our national aspirations are now set much higher, at eight-nine per cent. As inflation comes off, we will have to work to rejuvenate growth through appropriate interest rate adjustments.There is no doubt that the primary challenge of monetary policy on Tuesday is to bring down inflation. RBI is doing a sterling job of tightening monetary policy at a steady pace, trying to balance the twin objectives of growth and inflation. We recognise that RBI’s choices have become more complicated because uneven monsoons and rising global commodity prices that are driving inflation are beyond its control. Unfortunately, we are living in a world of uncertainty that is posing great challenges to all of us in financial markets.
BS
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