The Reserve Bank of India (RBI) said on Monday the balance of risks on the growth outlook for Asia's third-largest economy had tilted towards the downside due to the global slowdown and deterioration in world financial markets.
"Several significant global and domestic developments recently have rendered the outlook uncertain and have increased the downside risks associated with real GDP growth," the RBI said in its review of macroeconomic and monetary developments.
The central bank will review its monetary policy on Tuesday, as evidence of sharp downturn in the economy began to surface against the backdrop of an economic slowdown around the world.
The economy and markets took an unexpected knock from the global credit squeeze in the wake of the collapse of Lehman Brothers last September, exposing the country's vulnerability to shocks elsewhere.
In order to boost business sentiment and shore up growth, the central bank has aggressively cut rates and banks' cash reserve requirement since mid-October while the government has announced a modest fiscal stimulus.
But the RBI saw some silver lining amid the gloom.
"While downside risks would be extending to the future, the fall in commodity including oil prices and the coordinated fiscal and monetary stimulus are expected to revive the growth momentum," it said.
The RBI said tax revenues were likely to slow, as a result of moderation in economic activity, which in turn could make attaining the budget deficit targets in the fiscal year ending March 2009 unattainable.
The government has already said that the fiscal deficit will overshoot the budget target of 2.5 percent of gross domestic product due to extra spending announced to stimulate the faltering economy.
A Reuters poll last week showed the central bank was tipped to hold interest rates steady, but a sizeable minority of analysts polled by Reuters bet on yet another cut.
The RBI has cut its short-term lending rate by 350 basis points in four steps since Oct. 20, including a cut earlier this month, as the global meltdown has hurt business sentiment and reduced demand.
The central bank said inflation by the end of March would be siginficantly lower than the projected 7 percent. Inflation has fallen sharply from a peak of 12.9 percent in August and was at 5.6 percent in mid-January.
It said while sharp easing of monetary policy globally and domestically could pose an upside risk to inflation, it could be offset by falling global commodity prices, including oil.
"On balance, however, the inflation outlook is tilted downwards at the current juncture," it said.