MONETARY AND FISCAL POLICY 2011-2012

Submitted By:Group 5 Members:Thomas Mathew Bineesh R Gibin Baby Amritha Asokan Manu K Sanu Anusha Arun Anju James Namitha U Anakha Balakrishnan Emil Mariya Asha Constantine

Introduction
From a macroeconomic perspective, the last quarter witnessed significant developments, both globally and domestically. Growth momentum in the US and the euro area economies has weakened. In the euro area, macroeconomic prospects are intimately tied in to its ability to credibly resolve its sovereign debt and financial sector problems. In turn, trade and financial linkages increase the risks of euro area instability transmitting through to emerging market economies (EMEs), which have already experienced large volatility in their financial markets, particularly their currency markets. Significantly, while the prices of many commodities declined over the quarter, crude oil prices remained relatively firm. The impact of this on commodity importing EMEs has been exacerbated by currency depreciation.

 Amidst this turbulence and heightened uncertainty, the Indian economy is clearly seeing slowing growth. This moderation is, in part, due to the anti-inflationary stance of monetary policy, a necessary pre-condition to bring inflation down. But there are also other factors responsible for the moderation in growth, particularly for the significant slowdown in investment activity, such as policy and regulatory matters. These issues clearly have adverse implications for sustaining rapid growth.

 Of larger concern is the fact that even with the visible moderation in growth, inflation has persisted. Reassuringly, momentum indicators are turning down, consistent with the Reserve Banks projections that inflation rate will decline significantly in December and continue on that trajectory into 2012-13.

 Recent policy actions have been firmly based on the proposition that sustained growth over a long period of time is compatible only with low and stable inflation. Persistently high inflation strongly influences expectations adversely and, through them, consumption and investment decisions. Changing the policy stance when inflation is still far above the tolerance level entails risks to the credibility of the Reserve Banks commitment to low and stable inflation. However, growth risks are undoubtedly significant in the current scenario, and these need to be given due consideration.

STATE OF ECONOMY
GDP growth decelerated to 7.7 per cent in 201112 from 8.8 per cent a year ago, and 7.8 per cent in 2010-11. Industrial growth, as measured by the index of industrial production (IIP), decelerated to 5.6 per cent during April-August 2011 from 8.7 per cent in the corresponding period of the previous year. This was mainly on account of slowdown in capital goods, intermediate goods and consumer durables.

 Inflation has remained stubbornly high during the financial year so far, averaging 9.6 per cent. Inflation was driven by all the three major groups, viz., primary articles; fuel and power; and manufactured products. Primary food inflation was 9.2 per cent in September 2011 as compared with 9.6 per cent in August. The elevated level of primary food inflation was mainly on account of increase in prices of vegetables, milk and pulses.

 fuel-group inflation increased from 12.8 per cent in August 2011 to 14.1 per cent in September mainly due to the increase in petrol prices and upward revision in electricity prices. The estimated total flow of financial resources from banks, non-banks and external sources to the commercial sector during the first half of 2011-12 was around `5,00,000 crore, up from `4,80,000 crore during the same period of last year. The deceleration in bank credit was more than offset by higher flows from nonbank and external sources, particularly foreign direct investment and external commercial borrowings, reflecting still buoyant demand for financial resources

 Liquidity conditions continued to remain in deficit during the current financial year (up to October 21), consistent with the antiinflationary stance of monetary policy The Central Governments key deficit indicators widened during April-August 2011. This was due to both deceleration in tax revenues and increase in expenditure, particularly relating to fertiliser and petroleum subsidies.

 In the money market, the overnight interest rates have remained generally close to the repo rate during 201112 so far. Notwithstanding slowing and uncertain global conditions, exports grew by 47 per cent during Q1 of 2011-12 reflecting diversification in products and destinations. During the same period, imports increased by 33 per cent largely reflecting higher oil prices. Consequently, the trade deficit widened to US$ 35.4 billion in Q1 of 2011-12 from US$ 32.3 billion in the corresponding period of last year. If the current trend persists, the current account deficit (CAD) as a percentage of GDP this year may be higher than it was last year.

INFLATION
Despite significant weakening of economic activity, global commodity prices have corrected only marginally. Supply limitations remain a key upside risk to commodity prices. According to the IMF (WEO, September 2011), consumer price inflation is likely to increase from 1.6 per cent in 2010 to 2.6 per cent in 2011 in advanced economies, and from 6.1 per cent to 7.5 per cent in emerging and developing economies.

 Going forward, the inflation path will be shaped by both demand and supply factors. First, it will depend on the extent of moderation in aggregate demand. Some signs of demand moderation are evident, although the impact is being felt more on the investment side.