MUMBAI: The Reserve Bank of India governor Raghuram Rajan implicitly justified his decision to raise rates to tackle high inflation. Using unconventional tools to conductmonetary policy may not be an advisable option as it could create some new set of problems, he said. Speaking to school students in Mumbai, Rajan explained the limitations of using innovative tools of monetary policy.
“I think problems arise when central bankers get overly innovative in the tools they use,” Rajan said. “I think it is better to be boring and do what is conventional because if you try the unconventional you may create a whole set of new problems.” He explained the supply-side constraints that need to be addressed. He cited the example of large projects that have been stalled and also said that on the food side there are discrepancies in distribution which prevent production from being as high as it should be.
“So there are many ways of constraining demand. A tighter fiscal deficit is a way of constraining demand. We think that will happen. Another way to curtail demand is by raising rates,” said Rajan. Explaining the dynamics of inflation in a poor economy, he said that the real problem is that many people do not have jobs and, hence, are not contributing to supply but at the same time have demand for goods.
“They are not contributing to supply, they are not producing those goods which could be bought. Essentially, as a result, they are excluded from the economy, they are not responsible for inflation but they are also not helping bring it down because they do not have the jobs that would create the supply and bring down inflation,” Rajan said. As far as growth goes, India is addressing it through a variety of reforms that will make finance more easily available, he said.
Rajan also said India may end up being one of the two or three largest economies in the world in a few years. “My guess is that by the time you are old enough to get a job we will be a significant force in the world economy. We are a country that has kept its board relatively open and is opening up even more, so flows in and out will be important and will have a lot of influence on the world. I suspect when you are my age, we will be one of the two or three greatest economies in the world and you as central bank governor will have to decide the kinds of policies that are appropriate for the world and not just for India at that time.”
Taking over as the governor of RBI at a time when markets were in turmoil has brought along a number of responsibilities, he said. “I think it is the weight of responsibility itself as well as the challenge of adding value —those are the things that you think about at such times.”