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Reversal of fiscal policy biggest challenge: RBI
April, 28th 2009

A reversal of fiscal policy measures without any spillover effects will be one of the several challenges to confront the Reserve Bank of India (RBI) in the days to come.

Fiscal sops given by governments tend to put pressure on public debt over a period of time, having ramifications on inflation and within various sectors of the economy.

Unwinding of fiscal stimulus in an orderly manner is one of the major challenges going forward, RBI governor D Subbarao said in his statement to the International Monetary Fund on Saturday.

Fiscal stimulus packages put in place by the Centre to fight the downturn have already more than doubled the fiscal deficit projected for FY09 (Apr-Mar) from less than 2% of GDP to almost 3%.

Higher deficit financing tends to have an inflationary impact on the economy. Moreover, a reversal of tax sops could derail the pace of growth in the real sector. Unwinding of fiscal policy, therefore, needs to be handled carefully as the economy gradually gets back on track.

The central bank governor also highlighted other challenges ahead. These include implementing the fiscal stimulus packages, particularly stepping up public investment, revival of private investment demand, maintaining flow of credit while ensuring credit quality.

For the central bank, which is also the regulator of the financial markets, preserving financial stability along with provision of adequate liquidity is another task that will have to be addressed, according to Mr Subbarao. Besides, it will have to ensure an interest rate environment that supports the return of the economy to a high growth path.

Notwithstanding several challenges, the governor pointed that the Indian economy continues to remain resilient, with well-functioning markets and sound financial institutions. Macroeconomic management had helped maintain lower volatility in both financial and real sectors in India relative to several other advanced and emerging market economies.

As for governance at IMF, Mr Subbarao said, We call for the introduction of an open, merit-based process, irrespective of nationality and geographical preferences, for the selection of the senior management of the Fund.

On the augmentation of IMFs resources, Mr Subbarao called for exploring a number of options. We support the proposal to utilise additional income from the investment of higher proceeds of the agreed gold sale under the New Income Model to expand subsidised lending to low-income countries.

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