Indian investors are facing a much-anticipated decision by the Reserve Bank of India (RBI) this week will now have to juggle the implications of an economic soft patch and Donald Trump making good on his trade threat against the nation.
Growth cooled to 5.8 per cent in the first three months of the year, the slowest pace in several quarters, according to a report on Friday. That took the expansion in the fiscal year to March 2019 to 6.8 per cent, lower than the 6.9 per cent median estimate in a survey. The data has also intensified calls for the RBI to loosen monetary policy and the government to boost fiscal policy.
Added to the mix was the United States (US) announcing on Friday that it would terminate India’s designation as a developing nation effective June 5, eliminating an exception that allowed the country to export nearly 2,000 products to the US duty-free.
A third consecutive rate cut now looks a done deal at the RBI’s meeting this week, Shilan Shah, senior India economist at Capital Economics in Singapore, wrote in a May 31 note. There is also a growing chance that the finance ministry, now under the stewardship of Nirmala Sitharaman, opts to relax its fiscal deficit target for this year.
Despite the central bank’s two interest-rate cuts this year, borrowing costs in the economy aren’t coming down fast enough. Liquidity has also dried up in recent months as demand for cash picked up ahead of India’s six-week election.
That is kept a lid on investment and consumption in the economy, and adds to pressure on the central bank to take more easing action this week. Not only by lowering interest rates, but also by adjusting its monetary stance to an accommodative one and injecting more liquidity into the financial system.
Is there a room for rate cut? Yes, definitely, said Suyash Choudhary, head of fixed income at IDFC Asset Management Ltd. in Mumbai. But unless the market is comfortable with respect to expectations on liquidity those cuts will not get fully transmitted.
The benchmark 10-year bond yield dropped 8 basis points to 6.95 per cent on Monday -- its lowest since late 2017 -- after having shaved off nearly 40 basis points last month amid a drop in oil prices and a global rally in sovereign bonds.
Constrained by a widening budget deficit, Prime Minister Narendra Modi -- who was sworn into office for a second term last week -- may increasingly look to the RBI for help in spurring lending and growth. Inflation has also been relatively benign, well below the banks four per cent medium-term target, giving policy makers ample room to ease.
Governor Shaktikanta Das will probably reduce the repurchase rate by 25 basis points to 5.75 per cent on Thursday.
The Trump administration has said concerns over market access for US goods being exported to India led them to withdraw the benefits, which prohibited duties on about $5.7 billion in imports in 2017, according to the Congressional Research Service. India’s opposition Congress party warned there are grave trade and economic implications from Trumps decision.
Despite the central bank pumping in cash via open market bond purchases and foreign exchange swaps, financial conditions have been tight in the past few months.
According to Deutsche Bank AG, the net deficit on rupee liquidity has averaged $8 billion in the past six months. The Reserve Bank of India will look to possibly shift toward a surplus of between $2 billion to $4 billion over the next six months as it tries to fix the problems with the shadow banking sector and improve policy transmission, it said in a report.