Should the RBI hike Interest Rates

For the past few days, I have been tormented with this problem if it makes sense for the RBI to raise interest rates. Here, I am not talking of repo or reverse repo rather the CRR. I was quite surprised to see the rates hiked without notice to anyone. It caught everyone off-guard. It's sometime nice to see the power of RBI. Completely, neutral to government pressures. Even surprised to see the markets to have rallied the next day as I thought it was not a positive information for the markets to discount. Well, the markets have not been always rational.

The Fed has been hiking its interest rates over the past few years and its now reaching a level where the markets are increasingly jittery. At 5.25% we are at a all time high. It is increasingly removing money from Asian markets, which was largely leveraged from these countries. Also I don't know if he will be able to control inflation with this hike. The brunt of the fuel hike will cause further damage to inflation. However this is supply driven and demand driven. Our consumption of amount of fuel has remained more or less constant across two years. This could be important as one will not be able to change his consumption pattern too much because of this hike. He may reduce it, but the extent will be relatively small. Given this scenario, should India hike its interest rates. I have some thoughts on it.

• Capital is increasingly required in most of the industrial sectors. Most companies have announced their plans to expand or currently in expansion. As we have a largely under-leveraged companies, they have been borrowing quite extensively from the markets or banks. So, it is going to affect their profitability. I however, doubt if these companies will curtail their investment decisions or defer them for sometime till they have some clarity. It is obvious that the world over interest rates are hardening, and hence makes sense for them to have their expansion plans at these rates, than later.
• To a certain extent, we are handicapped to world interest rates. I don't deny that. I feel this rate hike has taken the speculative money and will increasing pressurize good money that can be spent as FDI to move out and Reddy wanted to prevent that by giving hints in the air. As I do not know our ECB completely, apart from what keeps popping in ET, my guess is that we still are not in the area of concern.
  
• Being a capital hungry economy and the projects lined up in infrastructure being huge till 2012, the governor should be more interested in the areas of lending rather than the rate at which it is being lent. RBI forced banks to increase the provisioning for house loans, which in my sense was a good move as it changed plans for the banks to shift priorities
  
• Directive lending should be bought back in place to ensure money is sent to the right sector. Now, here I do not want them to invest in agriculture, coz this sector is hardly growing and increasingly the money does not seem to reach the end consumer. However, with the kind of efforts that is being put in by ITC, Reliance, Bharti, HLL, Godrej, I personally believe money can be used elsewhere.
• Money can be specifically spent on building effective roads, airports, sea-ports and railways.
• Money can be spent on power. Somehow, the pace can be improved. With lending made aggressive, this can be done
• Money needs to be spent in having clean water, education etc. as these will help the country in the long run

Given this picture, I don't think interest rate hike will affect us immediately but I hope he does not hike the core interest rates as it start creating the fear of building expectation of hiking interest rates, which an even more danger to the system.