OECD suggests further cut in interest rates; sees India recovery in 2009

The Organisation for Economic Cooperation and Development (OECD) has said that central banks of nations should pay close attention to the risk of deflation, and should keep cutting interest rates during the coming months.

In its latest report, the Economic Outlook, the OECD has said that headline inflation, though still high, is declining, with many countries facing "a protracted recession of a magnitude not experienced since the early 1980s."

It said that though not part of the central projection, deflation would now appear to be a greater risk than an alternative where inflation expectations become unanchored, ''although neither eventuality has a very high probability."

Saying that the present is not ''normal times'', the report says that during normal times, monetary rather than fiscal policy would be the instrument of choice for macroeconomic stabilisation. It says that the economies of the US, Japan, the UK and the Euro zone would all shrink next year, as the financial crisis takes its toll on the broader economy. It says that while policy action has limited a "period of panic", the economic uncertainties are "exceptionally large" and therefore growth will recover only gradually, sometime after the second half of 2009.

The OECD reduced its forecast for growth in 2009, saying the economies of its 30 members would contract 0.4 per cent in 2009. Earlier it had estimated a 0.3 per cent contraction in 2009.

The OECD says that governments across the world have unveiled measures to stimulate spending and investment, and tax cuts may be more effective as a boost to growth than alternatives such as spending on infrastructure.

In its report, the OCED says governments should be prepared to expand efforts to protect banks and stabilise financial markets, though such support should be limited to sectors or firms that are of systemic importance. It estimates that the US gross domestic product (GDP) may contract by 0.9 per cent in 2009, while Japan's economy could shrink by 0.1 per cent. It estimates that the Euro zone would shrink by 0.6 per cent and the UK by 1.1 per cent. 

For India, the OECD estimates that the growth rate would slip to seven per cent during the current year, before rising once again to 7.3 per cent during 2009-10. It said that the Indian economy is projected to slow further over the next year and to recover in tandem with the world economy in 2010. India's GDP growth rate was nine per cent during 2007-08. 

According to OECD, after growing at 7.3 per cent during 2009-10, the economy would grow further to 8.3 per cent in 2010-11. 

Referring to inflation, the OECD said that while it is high, driven by commodities prices, the peak appears to have passed. Inflation remained in double digit for several months in India, finally climbing down to 8.9 per cent during the second week of November, mainly on account of fall in prices of crude oil, metals and other manufactured items.

Citing the current account deficit that has risen substantially, it said there was downward pressure on the exchange rate, with foreign institutions having become more reluctant to invest in India. The Indian rupee (INR) is hovering at around Rs50 to the dollar, closing on Tuesday at 49.95/96. The OECD added that unchecked fiscal spending has left little maneuvering room during the ongoing economic slowdown, sying that a period of fiscal retrenchment seems desirable, focused on making government subsidies available only to those in real need.