Inflation has hit a 3-year high and stands at 7% versus 6.68% for the week ended March 22 . The market had estimated it at 6.52%. 

Shubhada Rao, Chief Economist, Yes Bank, said there are pressures coming from primary articles. She expects these pressures to continue. Rao told CNBC-TV18 that inflation is likely to range between 6.5-7.2% on a higher trajectory.

She added that raising rates would be risky and Reserve Bank of India can adopt liquidity impounding. As a temporary measure, Yes Bank sees rupee appreciation as a quicker tool to manage inflation from RBI’s side, she commented.

Excerpts from CNBC-TV18’s exclusive interview with Shubhada Rao:

Q: 7% inflation was far more than the Street expectations. There were some voices anticipating a fairly high figure in terms of inflation. What is your expectation of the kind of numbers that we could clock in and monetary action? Would you expect it sooner?

A: Yes. Actually, our own estimates were below the actual number that came out. We were at 6.62%. It is clearly getting difficult to predict the inflation number more accurately. But definitely, we did see pressure coming from primary articles and so on. Going forward, in the coming six to eight weeks, we do see pressure continuing. Inflation is likely to range between 6.5-7.2% on a higher trajectory.

Q: What do you expect the RBI to do, given the fact that there is unanimity that this is a supply side problem?

A: Definitely, it is a supply side problem. But with such high and elevated inflation numbers, one expects a combination with fiscal and monetary tools. There is a possibility of a combination of MSS resumption and a CRR hike. We look at a higher probability of this combination rather than a rate hike because growth is already in moderation.

At a tilting point, a rate hike is likely to reverse the growth cycle. The operative word here is ‘likely’ because we really don’t say it with certainty. But there is an outside chance that growth may reverse. It takes about five years to get back the growth momentum in the upswing of the cycle.

So, raising rates would be a bit risky. But the Reserve Bank of India can adopt liquidity impounding.

Q: Can you make a case for CRR not being touched and just a signaling sign?

A: It may not then necessarily just remain a signal because margins are coming under pressure and input costs are moving up. So, the Reserve Bank of India is raising a repo rate as a signal. It is definitely a tacit acceptance that high inflation is going to be staying for quite a while. So, a rate call is something that is a directional call.

Since this inflation number is essentially being driven as a supply side phenomenon, they could use some sort of liquidity impounding rather than a rate signal. A rate signal is more a call where credit growth numbers are very high or even economic growth is well above its potential trajectory. There is a risk because moderation has set in. If there is a rate hike and even if it is a signal, it would perhaps accelerate the moderating scenario a bit more.

Q: Where does it leave the rupee? Will the RBI allow liquidity to appreciate as a way to actually counter inflation? Do you think they are going to keep it around the 40 mark?

A: In the past few days, we have seen the rupee being kept around 40. But if we do see capital inflows resuming somewhat, the rupee needs to appreciate a little bit or allowed to be used as a temporary measure given such high inflation numbers.

Over the medium-term, we may not want it because of its implications on employment, textile sector and traditional sector. But as a temporary measure, we would see rupee appreciation as a quicker tool to manage inflation from the Reserve Bank of India’s side.

Q: We saw a 46% fillip on iron ore. In terms of fiscal measures, that have already been taken, do you expect more to come? How much of an impact will the steps that have been taken have and over what time span?

A: Definitely, there is perhaps little headroom left for fiscal measures. But I am sure that the measures that have been taken in the past few days would not have manifested in this week’s number.

So, maybe going forward in a couple of weeks, we may see some impact of the fiscal measures being taken in the past few days. So, that is the reason why we believe that a rate hike would be rather an extreme measure to tackle inflation.

But I am sure that with the inflation rate at this level, we may see more fiscal measures. Definitely, I would expect some monetary measures too.