(Recasts with analyst, advisers, background)
By Rajkumar Ray
NEW DELHI, Dec 23 (Reuters) - India has considerable scope for monetary easing next year and may need more aggressive action, the government said on Tuesday, stoking expectations the central bank will kick off another round of rate reductions soon.
Like central banks around the world, the Reserve Bank of India has slashed interest rates since mid-October to counter the impact of the global slowdown, taking its key lending rate down 250 basis points to 6.5 percent.
Government economic advisers also said there was scope for more interest rate cuts to stimulate the economy, backing a finance ministry report which said aggressive central bank policy may be necessary if the global economic turmoil continued.
"Having run tight monetary policy during H1 2008/09, there is considerable scope for monetary policy easing over the next six to 12 months to offset the global increase in demand for money that is being transmitted to India," the ministry said in its mid-year review.
"An aggressive monetary policy may be necessary if the global economic depression continues to adversely affect manufacturing."
Economists said the comments indicated the central bank could lower its main lending and borrowing rates at its next review in January or before. India's rates remain well above U.S. rates at 0-0.25 percent, or Japanese rates at 0.1 percent.
"I am looking at a cut in the reverse repo and repo rate of 100 basis points," said Abheek Barua, chief economist at HDFC Bank in New Delhi.
The benchmark 10-year bond yield
CHORUS
Speaking in Mumbai, a top economic adviser to the prime minister said it was up to the central bank whether and when to reduce its rates, which were last cut on Dec. 6.
"It is desirable to reduce the repo and the reverse repo rate, I think, by 100 basis points in my judgement," Suresh Tendulkar, chairman of the prime minister's Economic Advisory Council, said.
The central bank raised interest rates in the first half of 2008 to counter inflation, which surged to annual rate of nearly 13 percent in early August.
But since the credit crisis spread to India it has shifted into an easing mode reducing banks' reserve requirements to inject cash into the banking system and cutting rates.
Arvind Virmani, adviser to the finance ministry, said central bank policy should put more emphasis on growth and the ministry said India should see expansion of about 7 percent in the fiscal year which ends in March, down from 9 percent in 2007/08.
Growth would be significantly slower in the second half than 7.8 percent in the April-September period, as slower export growth and weaker domestic demand took hold, the report said.
The expectation matches private forecasts for fiscal 2008/09 but many economists forecast growth of about 6 percent next year.
To prevent a sharper slowdown the government plans $9 billion in extra spending, although a widening fiscal deficit means it has less scope for stimulus than, for example, China.
Tendulkar said the government needed to see the impact of its first stimulus package announced early in December, before it could consider more.
"We are seeing some teething problems in the implementation of the first package," he said. "The second stimulus package will depend on the response to the first one."
Economists expect India's total fiscal deficit to top 7 percent this year to March 31, but Tendulkar dismissed concerns about the gap, saying that right now there was no risk of government borrowing crowding out private investment.
"Currently, it is the diffidence of private investment which is the primary issue. Clearly, the fiscal deficit is not an issue," he said.
Inflation has slowed to 6.84 percent at the start of December and Tendulkar expected it to drop to 4 to 6 percent by March.
The central bank has said it aims to bring annual inflation down to 7 percent by the fiscal year-end on March 31. (Additional reporting by Saikat Chatterjee and Anurag Joshi in MUMBAI; Writing by Charlotte Cooper; Editing by Mark Williams and Tomasz Janowski)