RBI monetary policy: Is a rate increase in the offing? The RBI is scheduled to meet on 30th July 2013 to discuss the first quarter monetary policy meet. The key question in every market participants mind is whether or not the RBI will hike benchmark rates in order to send a stern signal to the currency markets. The situation this time around is even trickier. As we have been discussing for quite some time, apart from the standard growth inflation dynamics, the rupee has taken the center stage as far as policy action is concerned. This is evident from the recent RBI action which is aimed at sending across strong signals to the currency market participants that the central bank is ready to defend the nation’s currency. However, we need to look at this question from a broader perspective. As the readers would be aware, the rupee depreciation is not a standalone phenomenon, rather, most of the major emerging nation currencies have depreciated in the recent months. A common phenomenon is that countries with wide current account deficits have been hit hardest. Unfortunately for India, despite various fiscal and monetary actions on the gold front, there is only this much that the RBI and Finance Ministry can do as far as current account deficit is concerned in the short term. Hence, the RBI in-line with various other emerging market central bankers has adopted a typical text book style action i.e. increase short term benchmark rates so as to provide support to the currency. The Indonesian experience suggests that the hike in benchmark rates may not be sufficient standalone to support the currency. As far as the recent RBI moves are concerned, the central bank instead of raising benchmark rates has resorted to measures which are aimed at tightening liquidity thereby leading to an upward pressure on the short term borrowing costs. This strategy has a two pronged impact, on one hand, it will lead to increase in short term yields thereby wooing some FII flows which have moved out recently to come back as the spread between the 10 year G-Sec US and Indian paper increase. On the other hand, excess liquidity which could be used to bet against the currency is sucked dry. These measures have at least for the time being halted the loose talk as far as the INR is concerned, though the full impact of the same will be visible in coming days. As far as the upcoming monetary policy is concerned, we are of the opinion that for the time being, the RBI has sent enough signals to the market that the central bank is ready to protect the currency. However, given the dismal growth numbers, it might not want to increase the benchmark rates just yet as it may signal a medium term reversal in policy which could lead to further slowdown in growth as it would impact the long duration interest rate curve as well. However, the RBI’s commentary will be watched closely. Hence, we are of the view that rates may remain unchanged in the upcoming policy meet though the commentary holds the key as far as near term monetary policy expectation is concerned. It is also important to keep in mind that the FOMC meets immediately after the RBI’s monetary policy meet which could once again have some repercussions as far as emerging market currencies are concerned.
Posted on: Sun, 28 Jul 2013 16:19:02 +0000
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