Page 181 - DECO201_MACRO_ECONOMICS_ENGLISH

Macro Economics

Notes

Case Study Dramatic Inflation Change Increases Bets on
Interest Rates

ocal banks in India are joining Goldman Sachs Group Inc. in predicting benchmark
borrowing costs will climb 1 percentage point in 2011 before a report this week
Lforecast to show inflation accelerated for the first time in three months in December.
Wholesale prices, the benchmark gauge, gained 8.40 percent from a year earlier, faster
than the 7.48 percent rate in November, according to the median forecast of 30 economists
in a Bloomberg survey before data due on Jan. 14. Axis Bank Ltd., the nation’s fourth-
biggest lender by market value, raised its forecast from 75 basis points yesterday. Mumbai-
based Yes Bank Ltd. made the same adjustment last week.
One-year interest-rate swaps in India have climbed 29 basis points, or 0.29 percentage
point, in the past month, the most among the so-called BRIC economies of the largest
developing nations excluding Brazil, reflecting expectations that the Reserve Bank of
India will raise rates as soon as this month. Prime Minister Manmohan Singh is under
pressure to curb inflation as his Congress party faces elections in nine states over the next
18 months.
“The dramatic change in the inflation trajectory prompted us to revise our call to a more
hawkish one,” Shubhada Rao, a Mumbai-based economist at Yes Bank, said in an interview
yesterday. “Inflation is like a ubiquitous tax, and the government will be under pressure
to get inflation under control as early as possible.”

Food Prices
Food prices surged 18.3 percent in the week ended Dec. 25, the most since July, according
to a Commerce Ministry report issued on Jan. 6. The annual wholesale inflation rate,
which climbed as high as 11 percent in April, fell in both October and November. Prime
Minister Singh called a meeting of his senior ministers and officials today to discuss ways
to gain control over rising food prices, according to government spokeswoman Neelam
Kapur.

The central bank will review borrowing costs next on Jan. 25 after raising the benchmark
repurchase rate six times last year.
Any increase in food costs “feeds into the rest of the sectors in the economy,” Chakravarthy
Rangarajan, the prime minister’s top economic adviser, said in an interview on Jan. 7. If
prices remain “sticky, probably some action will be required,” said Rangarajan, who led
the Reserve Bank between 1992 and 1997.
Tushar Poddar, a Mumbai-based economist at Goldman Sachs who correctly predicted
that the central bank would raise the benchmark repurchase rate by 150 basis points in
2010, said in an interview yesterday that the biggest risk to inflation is higher food and
commodity prices. Poddar told reporters in Mumbai on Dec. 8 that he expects the central
bank to lift interest rates 100 basis points in 2011.

The yield on India’s 10-year bonds has risen 29 basis points this year. The rate on the most-
traded 7.8 percent security due in May 2020 fell two basis points to 8.20 percent today.

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