Mumbai, Oct 30 (UNI) The Reserve Bank of India today said the management of capital flows and maintaining overall stability in the Indian financial market were the biggest challenges.
Highlighting several challenges facing the conduct of monetary policy, RBI said, ''Monetary policy will have to contend with the risks to overall macroeconomic stability and threats to inflation expectations emanating from fluctuations in asset prices.'' The rapid escalation in asset prices, particularly equity and real estate, which are significantly driven by capital flows which are often opaque, highly leveraged and largely unregulated, have the potential for heightening risk to the domestic financial system and posing threats to overall financial stability, the RBI observed.
The Central bank said liquidity that has been injected in the US and European markets to manage the financial tumoil cannot be fully confined to their economies, it equally added excess liquidity in India through renewed capital flows. Supply side pressures regarding oil and food was also on rise.
Thus, keeping at center the major issues related to financial contagion and potential inflation, the policy challenge is to ensure financial stability and managing inflation, RBI said adding, ''Threat to inflation in the future emanates not only from domestic liquidity conditions but also from the underlying global pressures.'' The persistence of capital flows have implications for domestic financial satability and future inflation with potential lagged effects on aggregate demand. Consequently, monetary policy will have to address not only the liquidity overhang but also incremental flows in the future, RBI opined.
Over the next twelve to eighteen months, risks to inflation and inflation expectations would also continue to demand priority in policy monitoring.