New Delhi, Jan. 24: The Centre has urged the Reserve Bank of India (RBI) to cut key interest rates.

This is an attempt to moderate capital inflows by reducing gaps between Indian and western interest rates.

The government is also toying with the idea of a levy on foreign transactions, akin to the Tobin tax.

This was suggested to finance minister P. Chidambaram by a number of leading economists.

Though this was a measure to contain capital inflows, officials said it might not find acceptance.

“A tax on outflows may be more acceptable than one on inflows,” the officials said.

Indian stocks have been clobbered on the bourses since last week, and many do not want any risky taxes that can discourage all inflows.

The officials said other measures they were considering included a small tax on external commercial borrowings. However, they said, industry bodies were against the proposal.

Many economists, too, felt that long-term capital inflows should not be discouraged and only short-term inflows controlled.

“But the key to the entire problem is interest rates,” the officials said.

They said the finance ministry in its discussions with the RBI had been hinting at the need to raise rates.

In the past few weeks, the RBI had been thwarting pressures to increase rates as it felt keeping them stable was a better option.

However, with the US Federal Reserve cutting its key rate by 0.75 basis points, signalling a lower rate regime in the West, India has to follow suit. Otherwise, the rate differential could attract huge inflows into the country. This could help strengthen the value of the rupee.

Earlier this week, the US central bank cut its rate for overnight loans between banks to 3.5 per cent to avert recessionary trends.

Consequently, the spread between two-year Indian government bonds and similar maturity US treasury notes had widened to 5.40 per cent from 5.01 per cent.

The rupee has already strengthened to 39.45 to the dollar. During the previous calendar year, the rupee rose 12.3 per cent as overseas funds bought a record $17.2 billion more in equities than they sold.

Response to Fed cut

India today said at the World Economic Forum in Davos that it would respond appropriately to the hefty cuts in the US interest rates.

“We will respond (to the rate cuts in the US) through appropriate fiscal and monetary measures,” finance minister P. Chidambaram said.