Manila-based Asian Development Bank (ADB) has pegged India's growth at 8.5 percent in the current fiscal year but cautioned that high inflation could undermine the strong growth.

The report said, “India’s economy is set to expand by 8.5 percent in the fiscal year to March 2011 (FY2010) but persistently high inflation and a rising rupee could undermine future strong growth.”

In its April, 2010 forecast, ADB had predicted a 8.2 percent growth for India.

“Growth is being supported by robust investment, increased capital inflows, and stronger industrial output, buoyed by rising consumer demand,” the report released on Tuesday, said.

The report noted that India should be take measures against rising inflation which poses an additional challenge for policy makers. “ADB raised its forecast for annual average inflation in FY2010 to 7.5 percent, up from 5 percent in April, warning that high food prices remain a near-term concern,” said the report.

“A well-grounded, robust recovery will depend on the ability of the various policymakers to coordinate effectively amongst themselves to achieve macroeconomic stability, and striking the right balance amongst growth, inflation, and competitiveness objectives will be a delicate maneuver,” says Jong-Wha Lee, ADB Chief Economist.

The ADB projection is in line with the government forecast which in July’s assessment put to a conservative 8.5 percent growth.

The report felt that rupee’s sharp appreciation threaten to erode India’s export competitiveness and its plans to further expand economic growth to 9% to 10% in coming years.

India’s current account deficit will rise from 1.5 percent to 2.7 percent of GDP “to reflect a sharp pickup in trade flows, with exports projected to grow by 18 percent in (2010-11), and imports by around 20 percent,” ADB said.

However, there was no change in China’s growth for this year, as it forecast growth at 9.6 percent.

According to ADB, while India’s growth will be 8.7 percent next financial year, Chinese growth will cool to 9.1 percent in the same period.