Pronab Sen, former adviser, Planning Commission believes the Wholesale Price Index inflations data for the month of April should be seen with some amount of caution.
"Core inflation falling to 2.8 percent says that demand side is really starting to bite now. We need to be a little cautious about it on because when you are dealing with investments for the future and the creation of new capacities on the whole growth cycle, you don't want to get into a situation where the real interest rate completely explodes on you," he explained.
Though there has been a sharp fall in WPI inflation, liquidity management is the key to Indian economy, added Sen.
"Until savers start putting more money into the bank deposits, we are going to have a liquidity problem. The rising gold import issue too has to be checked," adds Sen in an interview to CNBC-TV18.
Sen believes that as far as anchoring inflation is concerned, the government has done its bit. "I think the job is done. It is now time to start moving towards a more expansionary path, reviving investment and reducing this huge real interest rate that potential investors are facing," adds Sen.
Below is the edited transcript of Sen's interview to CNBC-TV18.
Q: Any guesses, this must be a seminal breakdown in the core inflation number way below 3.5 percent?
A: Yes it has. It means it is probably somewhere around 3.1-3.2 percent but that is not unusual, that is what we should be targeting. The point is it should continue to slide because we would be sending out the wrong signal. So, it is time to start looking at that number very carefully and think if it going too low.
Q: If in case the core inflation has cracked further possibly to the 2.8 percent figure what does it tell you about growth, the fact that core inflation has receded so drastically?
A: What it basically is saying is that demand side is really starting to bite now and this is something that we need to be a little cautious on because at the end of the day when you are dealing with investments for the future and the creation of new capacities on the whole growth cycle, you don't want to get into a situation where the real interest rate completely explodes on you.
And it has already exploded. If one looks at manufacturing, we are now talking about a seven percent real interest rate and that is huge. Anything above 2.5-3 percent is something one needs to get a little cautious on in the slowing economy.
Q: So your point is that the Reserve Bank of India (RBI) needs to cut rates but the government has to buttress this with measures to bring down the CPI through supply side measures, is that your point?
A: That is precisely my point and there has to be a liquidity management. There is also the need for liquidity management. Until the savers start putting more money into the bank deposits, we are going to have a liquidity problem. The rising gold import issue too has to be checked.
Q: Core inflation at 2.8 percent, as you yourself described, is a huge breakdown. Would this mean that now growth is in seminal danger? Would you worry as an industrialist if pricing power is falling so much?
A: As far as industrialists are concerned, it is not so much the pricing power per se. It is what your expectations are regarding your input cost going out into the future. So, if there are expectations that your input costS are going to go up, your projections about your future earnings are not going to look very good which will affect your investment behaviour.
Q: What is the policy prescription from here on?
A: On the monetary side, it is fairly clear because at the end of the day the objective of the monetary policy is anchoring inflation. As far as inflation anchoring is concerned, I think the job is done. It is now time to start moving towards a more expansionary path, reviving investment, reducing this huge real interest rate that potential investors are facing.
On the other side, it is also important for the government to focus on the CPI. There are components of the CPI that the government doesn’t have any control over but there are other components where it does. Food grains being one of them. The government can focus on bringing the food grain inflation down which would contribute hugely towards reducing the CPI. There are a lot of things to be done.
Q: In terms of the RBI monetary policy what do you think would be the priority list in terms of the key concerns in order to actually be conservative on the monetary policy? Would it again be trade deficit and then CPI or do you think that they are now going to start looking more closely at growth especially with something like core inflation decelerating even further for this month?
A: The trade deficit is obviously a cause of serious concern and it should be. But the point is, one really needs to ask yourself the question, how do you tackle it? Do you tackle it by squeezing the imports of raw materials in intermediates? They have been declining month-on-month for a long time now.
So, do you want to continue that process further wherein one is saying that the economy is decelerating more or do you then focus on one item that really represents, not a production behaviour but an asset behaviour which is gold.
And how does one change Indian savings behaviour away from gold and towards financial assets which goes back into the banking system? We are in a situation today where the M3 to M1 ration is getting really distorted and we need to be a little concerned about that as well. So the RBI has a lot of things to look at.