RBI Deputy Governor on inflation: ‘Inflation prediction tough when markets not stable’

Depressing economic activity due to low capacity utilisation, says Acharya

By: ENS Economic Bureau | New Delhi | Published:June 9, 2017 2:58 am
RBI, Viral Acharya, Inflation “Capacity utilisation in many sectors right now is very low. What should ideally happen is that the weakest firms should really be getting weeded out of these sectors. It has not taken place…” Viral Acharya RBI Deputy governor

Reserve Bank of India Deputy Governor Viral Acharya on Thursday said forecasting inflation was relatively easier when markets are stable over a period of time. In other times, it was difficult to make inflation forecasts, a challenge that the RBI is grappling with, he said at a conference organised by Indian Council for Research on International Economic Relations (ICRIER). “On inflation forecasts, I’ll just talk more generally … My sense is that it is easy to predict in data what’s likely to repeat itself. You can’t build a model necessarily of things that are completely non-stationary or one-off sort of things. Sometimes when markets are stable and operating over a period of time, subject to rules, regulations, conditions that are steady, I think the data that would come out of that may actually be amenable to this kind of statistical modelling and analysis,” Acharya said.

“But then there are times when the data is just non-stationary, and unfortunately at that point, the kind of micro data that I am talking about is really essential to understand on the ground what’s really happening, it kind of raises challenges because while it’s good to attribute everything to one new thing that is happening in the economy, it unfortunately makes the job of research and projections really hard because it could be that there are stationary forces also at work in the data,” he said.

Acharya said separating the forecast data based on steady state and unusual state was difficult. “Without getting into too much details, my sense is that this is the challenge one is facing on important parts of inflation that are behaving than they have historically. And let me just say that we are grappling with that,” he said. While leaving the repo rate unchanged at 6.25 per cent at the monetary policy review on Wednesday, the RBI forecast that inflation will remain in the 2 to 3.5 per cent range for the first half of 2017-18 and in the 3.5 to 4.5 per cent for second half. The RBI in its monetary policy review also cut growth projection for current fiscal to 7.3 per cent from 7.4 per cent.

Arguing for significant monetary policy easing by the central bank , Chief Economic Advisor Arvind Subramanian on Wednesday said “inflation forecast errors by the RBI have been large and systematically one-sided in overstating inflation.” “The inflation and inflation outlook are benign. The growth and growth outlook are also pointing to slowing growth and not to growth picking up or accelerating rapidly very soon … seldom have economic conditions and the outlook warranted substantial monetary policy easing,” Subramanian said.

One of the factors depressing economic activity was low capacity utilisation, Acharya said. “The capacity utilisation
in many of the sectors right now is very low. What should ideally happen is that the weak firms, the weakest of the firms which don’t have net worth, EBIDTA, or operating margins should really be getting weeded out of these sectors. It has not taken place. I think it’s through equilibrium effect, it is actually depressing lot of economic activity,” he said.

Quoting a study, Acharya said banks have used the bad loan recovery law — the Sarfaesi Act — to put weaker firms into liquidation, which helped healthier firms’ recovery. “Once the Sarfaesi Act was implemented, banks did actually use the Sarfaesi to fix the firms. Most of the times used the secured creditors right … the weaker firms were put into liquidation by banks under Sarfaesi … The healthier firms in the affected sector actually recovered very well because capacity utilisation in the sector now became healthier. Pricing power came back. They were willing to invest, they were more profitable and so on,” he said.

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