One day before its credit policy review, the Reserve Bank of India (RBI) on Monday said it will take measures to support growth within the legroom available, as a survey of professional forecasters lowered India's GDP growth projection to 5.7% from 6.5% for the current fiscal.
The quarterly review report raised expectations that the RBI will cut rates despite an overhang of inflation.
"Monetary policy needs to be cautious in the interim, focussing on inflation while using the available space to support growth to the degree it can," said RBI.
"If risks to macro-economy from inflation and twin deficit recede further, that could yield space down the line for monetary policy to respond to growth concerns."
In its last review, the RBI held interest unchanged, though it had lowered the cash reserve ratio - the proportion of deposits banks have to park with it - by 0.25 percentage points.
The central bank expects growth to fall short of the earlier projection of 6.5% for the current fiscal year. Average wholesale price-based inflation forecast has been revised upwards to 7.7% from 7.3%.
"While a modest recovery can be expected later in the year as the investment climate improves, growth in 2012-13 will fall short of the earlier projection," said the RBI.
Domestic growth has averaged 5.4% over the previous two quarters, which is lower than the 6.5% in 2011-12. The latest forecasts of GDP growth by various agencies are in the range of 5.6-6.7%.
WPI inflation, which has stayed around 7.5% so far in 2012-13, is likely to remain at elevated levels.
"Overall, the inflation path is expected to remain sticky in the near-term, barring major supply shocks," said the RBI.
"In the short-run inflation may turn out to be slightly higher than anticipated. However, it is likely to soften from fourth quarter of 2012-13."
It said there would be fiscal slippages during the year, beyond the budgeted 5.1% deficit, and that the final number may not be better than last fiscal's 5.8%.
The RBI also said that the reform initiatives of the government reverse the course of the falling growth.
Global growth prospects have weakened and the euro zone troubles have affected business confidence and caused deceleration in global trade, it said.
"Risks of spillovers from global financial markets remain. Unconventional monetary policies have transitorily moderated uncertainties, but the underlying stress has not diminished with incomplete deleveraging and unfinished financial sector reforms," the RBI said.
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