FY17 Growth Projected At 7.6%, And Other Highlights Of RBI's Last Annual Report Under Rajan

Policy rates would only come down if inflation falls further

30/08/2016 10:36 AM IST | Updated 30/08/2016 12:25 PM IST
Shailesh Andrade / Reuters

Reserve Bank of India's latest annual report under outgoing governor Raghuram Rajan emphasised the need to bring down consumer inflation, continue the ongoing clean-up of the banking sector, as well as increase the size and depth of the country's financial sector among other measures.

While the report provided extensive updates and commentary on the economy and RBI mandates, here are some highlights:

On economic growth:

In the foreword to the report, Rajan said while the economic growth was showing signs of a pick-up, it is still below the levels that the country is capable of achieving.

"Overall GVA (gross value added) growth is projected at 7.6 per cent in 2016-17, up from 7.2 per cent last year," RBI said in the annual report.

It attributed a better-than-anticipated agricultural growth and the expected allowances under the Seventh Pay Commission expected to be paid in the fourth quarter to boost consumer demand.

"With the final demand picking up, capacity utilisation is likely to increase, and so will investment. A virtuous cycle of growth is possible, reinforced by anticipation of the coming benefi ts from reforms like the recently passed Goods and Services Tax legislation in Parliament," Rajan said.

Additionally, the RBI report said the commitment of the central government to the path of fiscal consolidation in 2016-17 has enhanced the credibility of fiscal policy, which will, in turn, help in anchoring inflation expectations and in improving the business environment, including by fostering credibility among international investors.

On inflation:

RBI said its focus remains on bringing down consumer inflation to the official target of four percent. However, the headline inflation is expected to trend towards the target of five per cent by the last quarter of the year.

"The short-term macroeconomic priorities of the Reserve Bank continue to be to focus on bringing down inflation towards the government-set target of four percent," RBI Governor Raghuram Rajan wrote in the foreword to its annual report published on Monday.

However, the report warned against the impact of the implementation of the Seventh Pay Commission's awards, and the benefits of the current lower oil prices, as a risk to inflation.

On interest rates:

In his foreword, Rajan warned that the "room to cut policy rates can emerge only if inflation is projected to fall further," after consumer prices rose 6.07 percent in July, although the report noted the fall in prices outside of food and fuel were "a heartening development."

Retail inflation shot up to nearly two-year high of 6.07 per cent, while the one based on wholesale prices soared to a 23-month high of 3.55 per cent in July.

However, the willingness of public banks, especially those with stressed assets, to pass on lower interest rates to customers, remains muted.

The Monetary Policy Committee will be entrusted with making future policy decisions such as interest rates, which Rajan said is "a welcome step forward in strengthening the transparency, continuity, and independence of monetary policy."

On effects of Brexit:

The report noted the effects of Brexit on the Indian economy have been relatively muted, including the immediate impact on equity and foreign exchange markets.

However, because of ties to the UK and the Euro area, spill-overs through trade, finance and other channels cannot be ruled out.

On investment and industrial growth:

According to RBI, while a durable pick-up in investment activity remains elusive, consumption and the increased rural demand on the back of above-normal monsoon, along with the pay awards of the Seventh Pay Commission, should drive the domestic consumption and growth for the economy.

However, industrial activity has been in contraction mode in the early months of 2016-17, pulled down by manufacturing and looking ahead, no strong drivers are discernible at this juncture that could engineer a turnaround.

"Some support to industrial activity may, however, stem from the recent measures taken by the Government such as 100 per cent FDI in defence, civil aviation, pharmaceuticals and broadcasting," RBI said.

Private corporate investment remains subdued because of low capacity utilisation, and public investment slow in rolling out in some sectors, it noted.

Other external factors:

The report said the country's external position is viable and well-buffered to sustain a pick-up in non-oil non-gold imports.

"Nevertheless, the external environment continues to pose challenges stemming from large currency movements, a rising incidence of protectionist measures, swift and massive movements of capital and the amplification of uncertainty by the Brexit vote," it said.

It added that even as the outlook for capital inflows is optimistic with the recent liberalisation of FDI policy, the repayment of FCNR(B) deposits under the special swap scheme due in September to November 2016 will need to be managed carefully.

On medium-term reforms:

RBI said a critical component of the medium-term strategy for the country's financial sector will be to strengthen its public sector banks in several aspects, including governance, cost structure, balance sheets, risk management, including cyber risk.

"RBI's supervision will look into all these aspects, and also strictly enforce penalties for non-compliance with regulations or remedial action plans," Rajan said.

The annual report is the last one published under Rajan, who will be replaced by Deputy Governor Urjit Patel next month. See the annual report here.

With PTI and Reuters inputs

More On This Topic