Summary
Inflation in India has crossed 7 % mark , and the Government of India is very worried about it's political survival of the UPI's ' Amadmi's' agenda. It has correctly taken some steps to correct the high rise in ' foodgrain prices' and' energy intensive prices' by cutting the customs duties . Howver one may suspect about the long term viability of restricting the export of rice and other commodities from India.. The Government has rightly attacked the supply side factors though one can suggest more measures . But what is of big consequences to Indian economy is the RBI's policies to contain the commodity price inflation, which is to be announced on the April 29th policy.Indian stock markets have already factored in the policies towards a tight monetary policy by RBI , of increasing further interest rates/ or CRR , which in turn forces the commercial banks to make the credit dearer, by pulling down the stock prices in general in the capital markets.
Analysis
Also the markets anticipates the RBI to support an appreciating Rupee to reduce inflation which in turn adversely affect the export industries, and the IT sector. A higher interest rate is also perceived to be not very good to the banking sector.The present market volatility is low as evident in the implied option prices , but it is suggested that one can make money by buying such options which are low priced and later sell it and make money. But the more important issue is whether a further tight monetary policy can help contain inflation as believed by Dr. Venugopal Reddy , the monetarist RBI governor , and Dr. Rakesh Mohan the deputy governor , an industyrial economist but recently 'converted monetarist'. To answer that one has to understand that firstly the tight monetary policy and higher interest rates have increased the cost of production and the manufacturing cost and prices have hence gone up. A further reduction in output will increase manufacturing prices rater than decreasing it. The world commodity prices have gone up because of the supply constraints, and also a shift of preferences has occured from dollar holding to commodity holding.Such asset preferences shift can be temporary, and even a liquidity trap phenomenon can pervade to the commodity markets also by making the fall of such prices immenently possible sooner than later.
Even the RBI's reaction to allow the Rupee to appreciate to contain inflation is also a misplaced policy as it cuts the jobs in the labor intensive sectors like textiles and jems and jewellery , leather etc. International experience shows that prices from imported inflation can go up even when the currency appreciates. India needs a better team of economic and monetary managers than Dr. Reddy and Dr. Mohan. in aligning its monetary policy to the global developments and having a lower interest rate policy to increase manufacturing output and thereby contain the price rise due to cost push factors.The agricultural output supply also has to increase by an ' inclusive financial sector policy' , which so far the RBI has ignored.This has implications to Indian industry, commerce, banking , and financial institutions and the economy and people in general.Perhaps the prime minister Dr. Singh has trusted too much it's official bureaucrats economists to deliver, which proves to be very costly to him and his party.
