"It is becoming a larger global problem because of the imbalance, that there is so much of liquidity and the returns are skewed toward emerging markets," Reserve Bank of India's Deputy Gov. Subir Gokarn said at a private equity conference.
"So it is emerging as a potential threat and we are clearly thinking of ways in which we can deal with it," he said, referring to the record foreign investments worth $19.7 billion in Indian equities this year, with about one-third of the amount entering the market since the start of September,
All these developments are putting upward pressure on the Indian rupee, which on Tuesday hovered near its highest in five-months.
India, which was ninth most attractive investment destination in 2009 with a total FDI inflow of $34.61 billion, is not alone but policymakers across the emerging Asian economies are voicing concern over hot money, which is pushing up their currencies.
While Thailand said on Tuesday it is considering steps to control flow of funds, South Korea warned investors it might impose further limits on forward trading in a bid to slowdown the won's appreciation.
More governments around the world are moving to keep their currencies from appreciating as investors, turning their backs on low interest rates in developed economies, pour money into higher-yielding markets.
On Monday, Brazil doubled a tax on foreigners' purchases of local bonds and days before a meeting of Group of Seven finance ministers where currencies is expected to be one of the key topic of discussion.
Currencies are also expected to be discussed at an annual International Monetary Fund meeting, to be held in Washington this week.
Regarding inflation, Gokarm said: "The current inflationary scenario in India, which, as they have been saying in our recent assessment, is not very reassuring. The current inflation scenario is a cause of concern, as the inflation rate persists well above the upper bound of the comfort zone,"
Gokarn said normalization of monetary policy was now near completion, and further policy action would depend on upcoming data on growth and inflation.
The RBI has raised its key lending and borrowing rates five times in 2010 to tame spiraling prices, especially of food articles.
India's headline inflation in August eased from the previous month to 8.51 percent year-on-year, but remained significantly above the central bank's estimate of six percent by the fiscal year end in March.
"Food prices in particular are now being driven by some structural imbalances between demand and supply as increasingly affluent consumers diversify their dietary patterns away from cereals and toward protein sources," said Gokarn.
Food prices in India rose 16.44 percent from a year earlier in the week ended on Sept. 18, according to latest data.
