Mumbai : India's central bank will probably raise interest rates again next month as the first increase in two years is only the initial step in the battle against inflation, BNP Paribas and Standard Chartered said.

The Reserve Bank of India on Friday increased the benchmark reverse repurchase rate to 3.5 per cent from a record-low 3.25 per cent and the repurchase rate to 5 per cent from 4.75 per cent, saying containing inflation has become "imperative".

"This is just a sign of things to come," said Manoj Rane, treasurer at BNP Paribas in Mumbai. "A 25 basis-point increase doesn't get you there but it sets the course."

Governor Duvvuri Subbarao's move comes after Australia and Malaysia increased rates this month, while Norway and Israel did so at the end of last year as the global economy's recovery from the worst recession since the Second World War gathers pace.

Main concern

Inflation has returned to Asia as the region leads the global economic recovery. Factory output in Malaysia rose 12.7 per cent in January. Consumer prices in China rose to a 16-month high of 2.7 per cent in February from a year earlier as industrial production grew 20.7 per cent in the first two months of 2010, the most in more than five years.

While the threat of consumer-price inflation in China exists, it is "not particularly big" in the near term, and the main concern for the government is in tackling asset-price bubbles, Fan Gang, an adviser to the country's central bank said Friday in Beijing. The country will meet its target of keeping inflation to "about 3 per cent", Yao Jingyuan, the chief economist at the National Statistics Bureau also said.

Lagging behind India are central banks in the Group of Seven economies with the Federal Reserve and European Central Bank among those waiting for evidence of a more concrete recovery before they unwind record low borrowing costs. Canada may be the first G7 central bank to shift after data showed its core inflation rate unexpectedly accelerated.

Stocks in the US declined after India's decision, a month before the bank's scheduled monetary policy meeting. Subbarao moved after India's industrial production gained 16.7 per cent in January following a 17.6 per cent increase in December from a year earlier, the fastest pace since at least 1994, according to Bloomberg data. The wholesale-price inflation rate touched 9.89 per cent in February, according to the commerce ministry.

"We see this as the first of several policy rate increases as the Reserve Bank of India realigns policy rates to high inflation," said Sanjeev Prasad, executive director at Kotak Securities.