INFLATION

Vs.
&

RBI

INDIAN ECONOMY IN NEXT 1 YEAR

( Amid inflation and high interest rates, does the inflation economy hold good prospects in the next one year ) Karthik .P
CHRIST UNIVERSTY
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BANGALORE

INDEX

INTRODUCTION MACROECONOMIC POLICIES RBI MEASURES OBSERVATIONS FACTS AND FIGURES OF OUR ECONOMY FUTURE PROSPECTS OF OUR ECONOMY EXECUTIVE SUMMARY REFERENCES

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Introduction:

Inflation has become the common bottle neck for the economic growth of any nation, it may be for Developed nations or for developing nations like India .The classic definition of inflation states that it raises the prices of basket of goods where a common man hardly affords to purchase commodities. But now we can see its adverse impact in many forms like Retard the growth in GDP , decrease the economic activities and fluctuations in the market making it much more volatile . We can call this phenomenon as Stagflation in which Nations GDP decreases, Unemployment Increases And prices of good increases which adversely impact industrial performance as well as investment and private consumption. India is facing the problem of inflationary pressure because of the increase in Aggregate Demand while Aggregate Supply is respectively constant. Inflation is very unpopular happening in an economy. Opinion survey conducted in India, USA and many other countries reveal that inflation is the most important concern of the people as it badly affects their standard of living. So why it is called Inflation is enemy number one. As in short run its not possible to meet the gap between AD and AS thus RBI is planning to decrease liquidity by reducing Money Supply from the market. For this it has been planned that by decreasing CRR, repo rate and reverse repo rate Liquidity from the market will be drained. RBI planned that Liquidity from the market can be drained by decreasing money supply and to do so it is increasing CRR, repo rate, reverse repo rate and taking other measure like that. But interest is that whether hike to cry and other factors will curb inflation and what are the other factors, which are influencing inflation.

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Above paragraph describes the various measures taken by Reserve bank Of India to keep the inflation in control, but the problem is the unaffected inflation rate even after high changes in polices of RBI which increases the pressure on economists and even investors.so lets discuss regarding the pros and cons of RBI regulations and future economic prospective of our nation India

MACROECONOMIC POLICIES
Policies are the programs of economic action undertaken by the government to control, regulate and manipulate macro-economic variables to achieve curtained pre-determined macroeconomic goals. They are economic growth ,price stability and employment Then ultimate aim of these policies is to achieve certain objectives They are Economic Growth, high rate of employment, economic equity , stabilizing balance of payment. Although major macroeconomic policies include monetary policy, fiscal, income , stabilization , employment policies , we only concentrate on the major policies related to Inflation.

RBI MEASURES:
Government has mainly two policies to influence the economy, namely monetary policy and fiscal policy. Monetary policy focuses on managing supply of money in the system. Supply of
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money in the system can be controlled by managing the interest rates which is a direct consequence of policy rates (repo and reverse repo). Monetary policy is popular instrument to manage inflation in any economy. This is when we hear news about Government raising policy rates to contain inflation. Sometimes Governments reduce policy rates to fuel economic activity in a slow economy. Monetary policy instruments include Repo and Reverse repo rate, cash reserve ratio, and certain selective credit controls. Monetary controls affects the real variables. The fiscal policy is concerned with the raising of government revenue and incurring of government expenditure. To generate revenue and to incur expenditure, the government frames a policy called budgetary policy or fiscal policy. So, the fiscal policy is concerned with government expenditure and government revenue. Fiscal policy instruments include public expenditure , taxation , public borrowings , deficit financing .

We know inflation is the rise in prices of goods , this happens when the value of money decreases in the nation. The value of money depends on the flow of money circulating in the economy. Hence Monetary policy comes into picture which controls the supply of money .it works more faster and effectively in an economy. As per Mr. Harry Johnson an economist, Monetary policy is a policy employing central banks control of money as an instrument of achieving the objectives of general economic policy:. The monetary policy includes two monetary Instruments. They are General credit controls and selective credit controls. The General credit controls include monetary weapons like Repo rate The rate at which the RBI lends money to commercial banks is called repo rate Reverse Repo rate

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Reverse repo rate is the rate of interest at which the RBI borrows funds from other banks in the short term . This is done by RBI selling government bonds / securities to banks with the commitment to buy them back at a future date. CRR ( cash reserve ratio)

Cash reserve Ratio (CRR) is the amount of funds that the banks have to keep with RBI. If RBI decides to increase the percent of this, the available amount with the banks comes down. RBI is using this method (increase of CRR rate), to drain out the excessive money from the banks. Present interest rates are as follows: JULY 26th
CRR Repo Rate Reverse Repo 6.00 8.00 7.00

SEP 16th
6.00 8.25 7.25

OCT 25th
6.00 8.50 7.50

Source: RBI

OBSERVATIONS:
We will take a look at the inflation in India from Apr, 2010 to Apr, 2011. Here is a graph showing the inflation in India.

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The inflation was very high in the 2nd quarter of last year but slowly it moderated to a level which is still high and unhealthy for the growth.

Lets take a look at the policy rates announcements by RBI. RBI has changed policy rates 8 times in last 1 year. The data is as follows:

We can see a homogenous increase in policy rates in last 1 year to tame the inflation.

Lets take a look at the impact of policy rates on inflation.

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COMMENT: The impact is not uniform. In the beginning, when the inflation was very high, it came down because of high base effect. However, after Jul, 2010, the inflation rate is fluctuating irrespective of the changes in policy rates. Managing policy rates is a favorite tool for Governments to control inflation. However it didnt produce the desired results in India.

FACTS AND FIGURES OF OUR ECONOMY:

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India economy, the fourth largest economy in the world, in terms of purchasing power, is going to touch new heights in coming years. As predicted by Goldman Sachs, the Global Investment Bank, by 2035 India would be the third largest economy of the world just after US and China. It will grow to 60% of size of the US economy. This booming economy of today has to pass through many phases before it can achieve the current milestone of 9% GDP.The Economy of India is the ninth largest in the world by nominal GDP.

The 11th largest economy in terms of GDP of $1.43 trillion. 4th largest economy as of PPP of $4 trillion. Inflation rate - 8.43% as of December, 2010. Population still below poverty line - 37%. Workforce labor of approximately 500 million people, the 2nd largest. Unemployment - 9.4%. Exports of $210 billion last year, 17th largest. Imports of $327 billion last year, 11th largest. External debts of $237 billion. Foreign reserves of $300 billion. Ease of doing Business Rank - 134. Agricultural farm output 2nd largest in the world and employs 52% of the total workforce. The largest producer of milk, pulses and Jute. 2nd largest cattle population. 2nd largest producer of rice, wheat, sugarcane, cotton, silk, groundnuts and fresh fruits and vegetables. People without electricity - 600 million. 700 million people use mobile phones, 2nd largest. 3rd largest road network in the world. But, 65% of the workforce earns less than `20/ day.

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FUTURE PROSPECTS OF OUR ECONOMY:

Depreciating rupee, highly volatile markets and growing inflation are not a good sign for an developing nation like India. The Indian Rupee has undergone considerable depreciation in the recent days. It is about 19% from what it was in July (48.85 recorded July 27th). Rupee hit an all-time low of ` 52.73 last week. Within about 4 months such an amount of depreciation is definitely formidable. In fact the rupee is the worst performing currency among the other Asian emerging markets. The highly volatile Stock market due to FDIs and FIIs. They bring in much need working capital, cash to run industry. Along with this they also bring in expertise and knowledge to run industry. This all helps our industry to grow in terms of sales, profits, goodwill. This in turn increases earnings per share. This is the general information regarding them but the major problem is they invest only when the economy is stable and growing , if any fluctuations they sell all their investments and convert all the investments into their own currencies ( $ ) which effects in two ways 1) It results in depreciation of rupee. 2) Sudden fall in stock market. If the same scenario continues to the next few years , it results in adverse effects. Growing inflation may turn into further stagflation which ultimately results in recession. But Indian economy seems to be different from all the theories of economics and statistics. It is known for its consistency. Indian economy hardly affected by the euro crisis, off course there is an indirect effect on the economy but still better than all the other highly affected nations. Followed by the entrance of FDI in retail Sector shows positive signs for our economy. Let us see few advantages of FDI in retail:

Employment opportunities will be generated Increase in buying behavior of customers Farmers will be more benefited by selling directly to retailers like Wal-Mart and earn 3040% more. Ultimately the GDP increases

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EXECUTIVE SUMMARY
The present highly volatile market and economic conditions made our economy very unstable and week. Growing inflation at almost double digits is a great concern, in spite of RBI monetary measures Inflation has hardly been impacted instead the economic growth has been gradually slow down due to high interest rate which in turn affect the industrial activity. Monetary policies have slow down the free circulation of money in the economy. If the above conditions become stable with ideal inflation rates and decreased interest rates, the economic activity increases simultaneously and ultimately results in increase of GDP. The actual potential is discussed below. India is the land of wide range of opportunities which will be recognized by the whole universe in coming years. It shows the great potential in coming near future. About 25% of the world employees are from India. It is a land of diverse culture, Values and ethics. The countrys1.35 billion people will be better fed, dressed and housed, taller and healthier, more educated and longer living than any generation in the countrys long history. Illiteracy and all major contagious diseases will have disappeared. School enrolment from age 6 to 14 will near 100 per cent and dropout rates will fall to less than one in twenty. Indias claim to the title Silicon Valley of Asia will be followed by the diversification from IT to biotechnology, medical sciences and other emerging fields of technology, widening the field of Indias international competitiveness and generating a large number of employment opportunities for the educated youth. These developments, driven by the firm commitment of the government and a quantum expansion of vocational training programs, will ensure jobs for all by 2020. India will be much more integrated with the global economy and will be a major player in terms of trade, technology and investment. Rising levels of education, employment and income will help stabilize Indias internal security and social environment. A united and prosperous India will be far less vulnerable to external security threats. Finally conclude my report stating the growth potential of our country provided all the economic issues settle down soon.

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REFERENCES :
MACROECONOMICS THEORY and POLICY By D N DIVEDI PRINCIPLES OF MACRO ECONOMICS by MANKIW RBI occasional papers STATISTICS FROM http://www.rbi.org.in/scripts/Annualpolicy.aspx http://www.tradingeconomics.com/india/inflation-cpi www.indianeconomy.org

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