Inflation pressure compels central bank to lay stress on stability, said Finance Commission Chairman Vijay Kelkar.
The Reserve Bank of India, which is charged with the task to contain inflation, is likely to continue with a tight monetary policy stance in the present fragile political and economic conditions to maintain price and financial stability, according to Kelkar.
RBI and market regulator Securities and Exchange Board of India, which have become the anchors of the Indian economy, might become risk averse, Kelkar said while chairing a session on Trends in Indian and Global Economy at the FICCI's Annual Capital Market Conference.
The gross fiscal deficit, which is showing signs of some improvement, remains high. Besides, the off-balance sheet liabilities such as taking subsidy expenditure (for oil and food) below the line by issuing securities instead of outright subsidies are also increasing. This has potential to exert inflationary pressure, analysts said.
According to Prime Minister's Economic Advisory Council, the combined gross fiscal deficit of the Centre and states is expected to decline further from 6.4 per cent of the GDP in 2006-'07 to 5.6 per cent in 2007-'08.
EAC, in its July 2007 outlook, had estimated off-balance sheet liabilities at about 2 per cent of the GDP. Now the government has issued securities to oil marketing companies and the Food Corporation of India to compensate partly for under-recoveries. In view of the rising oil, fertiliser and food prices, there is reason to believe that the liabilities might be higher.
This may provide limited room to improvement in fiscal conditions, making the job of monetary authority that much tough. As a consequence, RBI cannot follow expansionary monetary policy, analysts said.
Referring to the impact of a slowdown in the US economy on India, Kelkar said, "The slowdown will not be positive for us. India is much more integrated with the world economy." The two-way trade and capital flows are greater than the GDP.
The long-term investment in infrastructure and reforms can provide benefits to the Indian economy as most of the issues and challenges are domestic in nature, he added.
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