RBI issue warnings on inflation, situation can deteriorate. Commodity prices can go up

Written by: Shoaib Zaman
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RBI issue warnings. Inflation situation can deteriorate
The Reserve Bank of India released its annual report where it issued warning on high inflation due to Federal Reserve's decision to maintain interest rate for the next two years.

The Indian central bank said, "Fed has indicated that it will pursue its near zero rate policy at least till mid-2013. It has also hinted at another dose of quantitative easing. This policy stance may keep the commodity prices elevated. The pass-through of the rise in global commodity prices till had been incomplete, especially in the minerals and oil space."

It even said that if oil prices persists at current levels then increase in prices will become necessary to cut-down on subsidies. It said, "Fertiliser and electricity prices will also require an upward revision in view of sharp rise in input costs."

The RBI was critical in its report of accepting the persistent inflation as the new normal. It conceded that it is difficult to contain inflation in absence of adequate supply. However, the RBI will resort to measures it can in order to curb the second round effects of inflation.

Sharing its view on the outlook for the FY 2011- 2012, the RBI said it will be monitoring closely as the global economy weakens and spillover affects the country.

The Central Bank also accepted that for the fiscal year 2011-2012. There will be limited fiscal possibility to support any counter-cyclical policies. During the 2008 global crisis there existed more breadth for the central bank to maneuver.

Also there is downside risk to the export segment of the economy. And if there is sudden and sharp downfall in the global economy then the export sector will be hit hard.

On the front of the capital flows, there could surge or diminish, depending upon the degree of risk aversion. If global crisis turns deep, capital flows are more likely to moderate. On the other hand, capital flows to India could increase in spells on relative returns basis and due to large interest differentials. FDI to India in Q1 of 2011-12 has doubled.

The RBI was explicit in its report that the government will not be able to meet its target deficit. By how much will the government miss will depend upon the oil prices and the rate of inflation in the country.

VIEW: It seems the Indian Central bank is preparing for the worst and doesn't share the Federal Reserve's view that the economy can be improved by giving out positive forward looking statements.

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