The Reserve Bank of India (RBI) raised interest rates on Thursday for the tenth time since March 2010 and said it will persist with its s battle against inflation, even as growth slows in Asia's third-largest economy.
The RBI raised the repo rate, at which it lends to banks, by 25 basis points to 7.5 per cent, in line with expectations in a recent Reuters poll.
"Notwithstanding both signs of moderation in commodity prices and some deceleration in growth, domestic inflation risks remain high," the central bank wrote in its mid-quarter policy review.
"Against this backdrop, the monetary policy stance remains firmly anti-inflationary, recognising that, in the current circumstances, some short-run deceleration in growth may be unavoidable in bringing inflation under control," the RBI said.
India's latest rate increase follows on the heels of recent monetary policy tightening in China and Brazil, other big emerging economies that are battling high prices even as growth slows from last year's heady levels.
Stocks swung to positive territory following the rate increase, and the yield on the benchmark 10-year government bond rose 4 basis points after the policy release to 8.37 per cent.
Economists expect a further 50 basis points of rate increases in India for the remainder of 2011, a Reuters poll earlier this week showed.
"In a scenario where the RBI will continue to persist with the anti-inflationary stance and inflation is only going to get uglier, it's unlikely that the RBI will press the pause button soon," said Deepali Bhargava, economist with ING Vysya Bank, who expects another 50 basis points of rate hike for the remainder of this calendar year.
"The rate hikes will likely be front-loaded as the RBI tries to stay ahead of the curve," she said.
Last month, the RBI made the repo rate its sole independently moving policy rate and pegged the reverse repo rate, at which it absorbs excess liquidity, 100 basis points below the repo rate, which means the reverse repo rate was raised on Thursday by 25 basis points to 6.5 per cent.
Thursday's rate increase follows a sharper-than-expected 50 basis point rate rise in early May, although data since then has pointed to an economic slowdown.
Growth in the January-March quarter was a lower-than-expected 7.8 per cent, the worst in five quarters, as rising rates and inflation took a toll on consumption and investment.
Still, inflation has remained stubbornly high, with the wholesale price index topping expectations for May at 9.06 per cent in data released on Tuesday and showing that price pressure has spread from food and fuel to manufacturing.
"Even as there is deceleration in some important sectors, notably interest-sensitive ones such as automobiles, there is no evidence of any sharp or broad-based slowdown," the central bank wrote in its release.
Elevated inflation is expected to persist in coming months, and could be exacerbated if, as expected, New Delhi takes the politically unpopular decision to raise the price of diesel and cooking fuels in order to ease its subsidy burden as global crude prices remain high.
Central bankers in the world's big emerging economies that have led the recovery from the global financial crisis face a balancing act as growth slows but inflation stays high. A stalling U.S. recovery and weakness in Europe and Japan add to the challenge of managing inflation without choking growth.