RBI Governor Y V Reddy explained the actions taken in the third quarterly monetary policy review at a media briefing on Tuesday:

Domestic factors dominate policy stance

The macro-economic developments in the Indian economy, by and large, have been on expected lines and there is some continuing pressure on inflation.

Therefore, the same stance continues. There have been dramatic developments in the global situation and there have been heightened global uncertainties, something which we had anticipated and planned.

• Credit Policy 2007-08: Complete coverage

But the situation is so complex that it will be inappropriate to jump to a conclusion as to what is happening there and start moving in some direction and getting oneself locked in that direction.

So, on balance, we felt that it is far better that substantively we continue with the stance which is most relevant for the domestic economy because the domestic economy considerations dominate.

Growth of 8.5 per cent and inflation of 4 per cent in January 2009

Given the lagged effects, we should perhaps look at what are the positions with regard to January 2007, what is the position in January 2008 and what do we want to see in January 2009. So that is one way of looking at it.

If we see in January 2007, the growth was very strong around 9 per cent, but inflation was 6 per cent and that was a major issue. We had to concentrate on rebalancing the whole situation of supply and demand factors.

In January 2008, we have arrived at 8.5 per cent reasonably comfortably. Inflation has been brought down to below 5 per cent, which is more or less what we wanted. And what do we want in 2009 is something which we have to keep in view.

In 2009 also, after recognising the possible uncertainties in the global situation, we should aim for at least 8.5 per cent growth, if not more.

Trade-off between growth and inflation

Let us go to the global sentiments in global situation. Global growth was very strong in January 2007 and today in January 2008, some countries are definitely thinking of and their policies centre around possible recession.

The projections are showing slight moderation in the global growth. In 2009, I think on global growth, it is nobody's bet that it will be higher. In fact, it is slightly lower.

We should also think globally, one year ago and one year forward and not selectively. Then you have the global inflation.

In January 2007, globally the inflation was moderating. But quite a few of the policymakers missed out the possible second-order effects of oil, they missed out the possible impact of food prices, though we have been emphasising on that.

So what is the position now? Now the position is that almost all authorities are recognising the impact of food prices. What is the global dilemma now? If you see the global dilemma, all monetary policymakers, the growth is likely to moderate, the inflationary pressures have hardened and financial markets in such centres are in such difficulties that there are extremely difficult choices not only between growth and inflation, but between financial markets and macro-economy and also between short term and longer term.

Inflation situation is not entirely comfortable

The first issue is what should be relative emphasis between growth and price stability at this juncture in India.

As  mentioned, growth is more or less on the lines anticipated. If people say that it is moderating, the projection itself is that we had planned for some moderation so that there are better demand and supply balances. So that is by and large along the lines expected.

Though some components in the industrial sector seem to be certain, concern about the growth in industrial sector and that is a matter for which we need to do a little more disaggregated analysis, but on an aggregated basis it is on the expected lines.

Then as far as inflation is concerned, inflation is apparently comfortable, but we should not only see what is apparent in inflation, we have to also see underlying issues just as in growth we look at sectoral issues.

First, all of us recognise that there is some suppression of inflation because the pass-through of international oil prices has not occurred. Second, all over the world, people look at consumer prices. So if at all you want to conduct global comparison and also from the point of view of the inflation expectations, we should look at consumer price index, which is around 6 per cent.

Then we also have to recognise that there is a strong overhang of liquidity and aggregate demand pressures are evident as has been explained in the policy. Therefore, we felt that on inflation side, while it is broadly in line it is not as comfortable as the numbers may indicate.

Therefore, we cannot afford to let off our vigil, our emphasis on price stability. Therefore, we use the word to reinforce price stability.

RBI comfortable with generating more demand later when productive capacity increases

The second aspect is with regard to demand and supply factors. With regard to supply and demand factors, investment demand has gone up significantly, we have given the data.

Once the investment demand is high, investment intentions are high, investments are happening, the natural effect is that with a lag, supplies will increase. So we expect the potential capacity in the economy to increase in the next 12-18 months,  which means that the supply factors will ease, which means that we will be  more comfortable if more demand is generated later.

Credit Policy 2007-08: Complete coverage