Why rate cut is the need of the hour? Know it from former RBI governor C Rangarajan

Former RBI governor C Rangarajan has joined the league of people who have been demanding rate cut, saying there is a room for moderation in interest rates and India is in a better position to face any global turbulence.

Rangarajan had headed the Prime Minister's economic advisory council in the previous UPA government. According to him, following are the reasons why the central bank should go for a rate cut:

1. Consumer Price Index (CPI) is under 4%: Presently, CPI inflation is below 4%, which is below the target rate. “Unless there is something dramatic happening in the world economy, we could expect a rate cut in the next policy," he said.

2. Devaluation of currencies: Low commodity prices and devaluation of currencies such as the Chinese yuan indicated that India should go in for a rate cut.

3. Increase in the US Fed rate: It is another factor to be taken into account while revising the rate cut. The effect of rate increase by US Fed will have to be seen in the context of what is happening in rest of the emerging markets. Since India's growth rate is still regarded as more respectable than that of others, the impact of the rate hike in the US will be less on India than in the other countries, he said.

He said in May 2013 when the US announced its intention to wind down its asset purchases the impact on India was more as the country ran a much higher current account deficit. "The reverse will happen now. Other countries may be affected more this time.”

Suggesting a gradual reduction in rates, he said: “It now appears that by September or sometime later the rate hike will happen. The only thing to watch out is what will happen when the US raises the rate while we lower the rate."

"We take that into account and perhaps start with reduction in policy rate by what we have been doing so far. We watch the situation and then follow it with more rate cuts later on," he said. A day after chief economic advisor Arvind Subramanian said India could still grow 8%, Rangarajan said India could at best achieve 7.5% in the current year.

He did not agree with the government's assessment that deflation was a bigger risk either.

"If the economy is to grow 7.5% or plus, obviously the rate of growth of economy in the next three quarters will have to be significantly higher. So, therefore, taking all these factors into account, the idea of growing at 8% is ruled out. Perhaps 7.5% for the year as a whole is what could be achieved," he said.

Rangarajan said that the GDP deflator, an indicator of economy-wide inflation obtained from the national account numbers, is a combination of CPI and WPI (wholesale price index). "Since WPI is in negative territory the combination of the two is giving a low GDP deflator," he said. India is "not necessarily in deflation territory," he said.

(Image: Indiatimes)