India's central bank is likely to increase for a fourth time this year key policy and interest rates at its quarterly monetary policy review Tuesday to rein in high inflation, as economic growth is now on a firmer track.
In a mid-cycle rate hike June 2, the Reserve Bank of India (RBI) increased the repo rate by 25 basis points to 5.5 percent and the reverse repo rate by a similar quantum to 4 percent, as part of its "calibrated exit from the expansionary monetary policy", which was part of the stimulus package by the government at the height of the global financial crisis.
With headline inflation at 10.55 percent in June and food inflation above 12 percent, the expected tightening in monetary policy has received support from the prime minister's economic advisory council.
"Monetary policy has to move away from an accommodative stance sooner than what is happening in other countries. There must be a bias towards tightening because the demand situation needs some control," the council's chairman C. Rangarajan had said last Friday.
If the policy rates are revised upwards again Tuesday, this would be the fourth successive hike since January this year. The apex bank has hiked its rates since it decided to tighten its monetary policy - first on Jan 29, followed by another on March 19.
"We do not rule out the RBI effecting a rate hike of as much as 50 basis points in its 27 July review," said Jay Shankar, chief economist and vice president with Religare Capital Markets.
"Policy makers indeed will now have to aggressively respond to the inflationary threat, having lost some of their credibility. This is likely to hurt investment and growth - the very objective they cited for delaying action for long," Shankar added.
A hike in the repo rate will increase the cost of borrowing for commercial banks. And an increase in the reverse repo (the rate at which the RBI borrows money from commercial banks) will make it more lucrative for banks to park their funds with the central bank.
The RBI will meet commercial bank chiefs Tuesday and address the issue of ensuring sufficient liquidity in the banking system.
Cash reserves in the banks began falling in late May as companies began to withdraw money to pay advance income tax and winners of the two telecom auctions withdrew more than Rs.105,000 crore to pay the license fees.
The apex bank will also give its outlook on prices and growth and may announce draft guidelines on licences for new banks.