THE GOVERNMENT’S crackdown on inflation must be strategised through a comprehensive package that beefs up supply side interventions to augment availability of primary articles and industrial raw materials and shuns monetary compression steps like raising interest rates which run the risk of depressing industrial production further and causing stagflation, according to FICCI.

 

While the decision to cut customs duties on food and essential commodities will make imports cheaper, the efficacy of these measures will be limited in the medium term.

 

FICCI has therefore suggested that that the government needs to take action on three fronts, namely:

1) Meet the domestic shortfall in primary products through imports and make them available at subsidised rates for domestic consumption like in the case of petroleum products.

2) Put in place a concerted programme for agricultural reforms as FICCI has been emphasising time and again. Such reforms must focus on improving the farm productivity, improve the supply of agricultural products and remove transport and other logistics constraints too reach food and other essential commodities to different regions.

3) Interest rates should be lowered in order to stimulate, the manufacturing sector. In any case, monetary compression through a hike in interest rates needs to be studiously avoided.

 

The Chamber has noted that according to data available, the inflation rate of pulses is insensitive to real interest rates. This clearly implies that our policy response to inflationary apprehensions for items like pulses have to be different and need micro economic interventions by way of imports/subsidies. (Refer Annexure 3)

 

The data also shows that the manufacturing sector growth responds inversely to changes in real interest rates. The growth in the manufacturing sector output which has almost 80 per cent weight in IIP, declined to 5.9 per cent in January, against 12.3 per cent in the same month last year. This is replicate of the mid nineties when similar tight monetary policy situation led a several deceleration of manufacturing sector.

 

According to feedback received from its constituents by FICCI, the high interest rate charged (15 per cent-17 per cent) by banks for lending purposes has negatively impacted the profitability by 20-25 per cent as well as long term expansion plans of these companies.

 

FICCI has cautioned against any further hike in the interest rates as this would adversely impact the manufacturing sector and thereby inhibit enhancement of the supplies of manufactured articles.

 

The manufacturing sector on one hand is being hit by high commodity prices globally thus pushing up cost of production and on top of that high interest rates domestically have further compounded the costs. Moreover, the existing inflationary pressure is largely due to primary articles. Inflation in primary articles rose from 3.90 per cent at the end of January 2008 to 6.28 per cent on February 23, 2008.

 

With the drying up of the capital markets and lack of funds from global sources, the high cost of bank finance is becoming a grave concern for the industry.

 

Several FICCI surveys conducted in the recent past clearly corroborate this fact. FICCI’s latest Business Confidence Survey (see Annexure 1) conducted in the month of December 2007 shows that Industry is deeply apprehensive about the slowdown in the growth momentum. Initially the high interest rates affected the consumer goods industry, but now even the intermediate and capital goods sectors are getting impacted. The raw material supplier industries are also getting affected and this has resulted in increase in prices.

 

In another FICCI survey on ‘slowdown in manufacturing sector’, 90 per cent of respondents have attributed the slowdown to high interest rates (see Annexure 2). High interest rates have not only led to increase in the cost of production for manufacturers but have impacted the demand also for their products. Profit margins have gone down further due to higher interest rates.

 

Due to high interest rates, non-food credit growth has slowed down to 21.8 per cent during April-February 2007-08 compared with 29.6 per cent in the corresponding period last year, which is below the RBI target of 23-24 per cent for the current financial year. The industrial slowdown in the last few months has only added to the dip in the credit growth rate.