RBI Must Sacrifice Inflation Aim to Aid Growth, Ex-Governor Says

India’s monetary policy makers need to support growth even at the cost of their inflation-fighting credentials, says C Rangarajan.

RBI Must Sacrifice Inflation Aim to Aid Growth, Ex-Governor Says
Dr. C. Rangarajan, former Governor of the Reserve Bank of India, speaks at an event. (Photographer: Namas Bhojani/Bloomberg News)

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India’s monetary policy makers need to support economic growth even at the cost of their inflation-fighting credentials, as tackling the pandemic situation requires extraordinary measures, a former central bank governor said.

The federal government’s large borrowing plan and the Reserve Bank of India’s willingness to support it are bound to fan inflation, Chakravarthy Rangarajan, who headed the RBI during 1992-97, said in an interview. What the central bank should be worried about is how high the inflation goes up, he said.

While the RBI targets to keep retail inflation at the 4% midpoint of its 2%-6% target band, gains in price-growth have exceeded its upper tolerance limit in the past two months. Governor Shaktikanta Das judged the event as ‘transitory’ and one caused by supply-side issues, while the Monetary Policy Committee he heads kept borrowing costs unchanged at a record low last month to support growth.

RBI Must Sacrifice Inflation Aim to Aid Growth, Ex-Governor Says

Rangarajan wants the rate-setters, who are due to review policy early next month, to go one step further and say that they will support growth even if the inflationary trend is more than just a hump.

The MPC “should be willing to say that growth is important in the current situation,” said Rangarajan, who sees consumer prices ending up well above the RBI’s 5.1% outlook for this fiscal year. “And therefore we should be willing to accept a little more inflation.”

The government, which originally penciled in a near-record borrowing of 12.1 trillion rupees ($162 billion) this year to spur spending in the economy, has separately announced raising an additional 1.58 trillion rupees debt to compensate states for a shortfall in a nationwide consumption tax collection.

“People who talk about the need for expanded government expenditure have to accept the fact that this will result in price increase,” Rangarajan said.

Here are excerpts from the interview:

Fiscal Deficit

  • India will miss its fiscal deficit target of 6.8% of gross domestic product by at least 1 percentage point, with overall government borrowing, according to his estimates, rising to 16.3 trillion rupees
  • Such borrowing plan cannot happen through normal sources and thus RBI’s support is essential to see it through

Growth Prospects

  • India can achieve 9% growth rate in the absence of a third wave of the pandemic, he said. That’s slower than the 9.5% pace forecast by the RBI
  • India’s potential growth has been falling from much before the pandemic. The most important component for India’s growth is investment as a part of GDP and that figure is going down from past several years
  • “Best way to stimulate growth in the short- and mid-term is really by raising the investment,” Rangarajan said. “The government should do whatever it can to raise capital expendiuture”

Forex Reserves

  • RBI will continue to build up some more reserves if flows keeps coming in
  • However, there’s the possibility that flow of funds will weaken once interest rates are reversed in advanced economies and already there are signs that interest rates will be reversed in those economies

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