In an effort to cut asset price inflation, the Reserve Bank of India is fast squeezing the overall money supply. It desperately wants to bring the prices of property and stocks under control. Stratospheric real estate and stock prices are applying an inward pressure on the home loan interest rate.

The government first requires curtailing its own borrowing needs and importing duties to boost domestic supplies. Such steps will further prevent inflation. Going logically, it should actually try to increase the supply of commercial real estate.

Whether talk of hotel properties in India, commercial or residential properties, everything is turning costly. This in return is pushing cost of production which is already high. Needless to mention are the factors like poor power supply, inordinate money and time to transport goods within India.

The RBI is also stepping up the efforts to limit the funds flowing into the country and allowing a bout of rapid appreciation of the rupee. However, if the rupee will continue to appreciate this way, the temptations for investing in India properties would also mount. The dollar return on investment would be the rupee rate of return including percentage appreciation of the rupee against the dollar. Therefore, the RBI would like to hold the currency appreciation steady for sometime.

According to industry connoisseurs, India would need large investments to develop more cities to accommodate half of its population by 2020. Still, the RBI is releasing stringent rules to curtail the flow of capital in the real estate sector. This may be because the central bank is well aware of the fact that the foreign funds will go into increasing the property prices rather than boosting the development. It clearly underlines that the prospect of full rupee convertibility will remain there till the market for land gets sorted out.
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  • Hi!

    I would like to mention a few more causes behind increasing inflation...

    A sharp hike in borrowing and lending rates took place in recent months. With inflation up and the RBI saying it will take “all the necessary monetary measures”, further hikes in interest rates could come. But will raising interest rates bring inflation under control? Does India have the markets and institutional framework in which raising interest rates is an effective instrument for inflation control? Does India have a central bank that has learned how to conduct monetary policy in an open market economy? The answer to these questions is: No. In this sphere, India lags behind modern practices.

    One striking feature of monetary policy in India has been the element of surprise. When inflationary pressures appeared in 2004, central banks all over the world responded by controlling inflationary expectations. The US Federal Reserve Bank raised the ‘federal funds rate’ in a calibrated manner, 17 times by 25 basis points each since July 2004, every time accompanied by statements that indicated where the Fed would go next. This policy framework kept inflation in the US under check. India, in contrast, lacked a coherent monetary policy. Changes in the repo rate, the reverse repo rate and the cash reserve ratio have repeatedly surprised the market, and have failed to keep inflation under check. Instead of calibrated changes in interest rates, consumers are now faced with sudden increases sharper than expected.

    Why has monetary policy in India been so different from that in more mature economies? The most important factor that has come in the way of smooth movement of interest rates has been currency policy. In trying to manipulate the rupee-dollar rate, the RBI has purchased dollars in the market. When the RBI buys dollars, it pays for them using freshly printed rupee notes. This leads to greater money supply, higher credit growth and inflation.

    If RBI really wants to pare inflation, it requires to bring an effective monetary policy.