No letting down guard on inflation, says Rajan

RBI Governor Raghuram Rajan defended his 25-bps cut in repo rate (rather than a 50-bps cut as was hoped for) as justified, based on the current macro scenario and said that the aim at this point was to reduce uncertainty in the economy.

In a post policy interaction with select journalists, he said that it was important to see past rate cuts pass through (to borrowers). He said there is no point just cutting rates if the pass through does not happen and the economy does not benefit. He expressed the hope that the steps announced today for providing additional liquidity will ensure that pass through actually takes place.

Asked if he had won the battle against inflation, Rajan said, “The battle against inflation is never fully (or finally) won. This is a temporary victory. But it is a battle for credibility so that at the first sign of trouble, we don’t abandon our policy.

“Once we gain credibility, even if there are shocks, there won’t be a significant hit on our flows. If you take emerging market economies, they have seen significant fall in currencies accompanied by a rise in inflation. But if you look at some of the western economies or even Japan, there has been no rise in inflation. That is because of the credibility they command. In fact, Paul Krugman has made the point to Japan that they should lose some credibility to allow some inflation! We have the opposite problem. We need to build credibility. So, we should not drop our inflation focus. That will give us immensely more room to cut when we have built it. We have a high interest rate regime because we don’t have that credibility.”

Rajan said he was heartened by the inflation survey results that showed inflationary expectations were moderating.

On the RBI’s ongoing drive to clean up bank balance sheets, Rajan said: “It is still work-in-progress. Banks are aware that we are closely watching the asset quality review process to ensure that there is no misuse to postpone the problem. The worst thing that one can do is to extend and pretend instead of taking any real action. But what we are seeing nowadays is that promoters are selling assets, promoters are trying to restructure assets. The pressure has been beneficial.

“Our first focus is on assets which are weak and we told the banks to declare them. I want to emphasise that the rules haven’t changed, we have just been enforcing them. For assets that could potentially turn weak over the course of the next year the focus will be on those assets to recognise and rehabilitate them.”

Rajan said that the CRR was already low. He added that most emerging market economies have uncompensated CRR that ranges from 4 per cent to 15 per cent. He said that the past rate cuts needed to be passed on before they could look at any further cuts.

On the possibility of liquidity or forex pressures in the next few months on account of the FCNR repayments coming up, Rajan said, “We have mapped out various scenarios. We can take care of the forex and liquidity pressures. We are keeping an eye on the market.”