3rd Quarter Monetary Policy and its Internals.
•The GDP growth moderated from 7.7% in Q1 to 6.9% in Q2 mainly due to deceleration in industrial growth from 6.2% to 2.8%. However what is of importance is why this deceleration has happened. There was a contraction on fixed capital formation where in real fixed capital formation as a percentage of GDP fell from 31.2% to 30.5%.Fixed capital formation represents the acquisition of fixed assets by private businesses, government enterprises and households and hence in totality represents the addition of capacity in and economy. The contraction in fixed capital formation along with a slowdown in non-farm credit from 21.3% to 15.7% represents reluctance on part of companies to take up new projects and add capacity. This assumption becomes more plausible when one considers that the slowdown ion non-farm credit has been sharp in real estate, infrastructure, cement and engineering goods. This is particularly worrisome when one considers the fact that at least on the infrastructure front the India story is supposed to be insulated from the global economic slowdown. India is in dire need of infrastructure projects and needs more than a trillion dollars for investments in infra. The slowdown in infrastructure is hence not due to slowdown in the global economy but due to lack of clarity on the policy front. Eg the government being a coalition one seems to be taking one step forward and two backwards, point being the flip flop in FDI in retail. So as far as this aspect of the economy goes it can be easily solved by the finance minister by showing some courage on the policy front
. • Inflation Internals
The WPI inflation which averaged 9.7% during April October 2011 period moderated to 9.1%, however this moderation was more due to the fall in the food inflation which entered negative territory. This decline was more due to a sharp decline in the prices of vegetables and fruits, while other food articles especially protein articles showed only a marginal decline from 8% to 7.1%. The weightage of fruits and vegetables in WPI is 3.84 as compared to 2.41 for eggs fish and meat, hence as soon as winter season gets over and fruits and vegetables prices start rising we can expect a jump in the WPI as well. Even the non-food manufactured item inflation remained high at 7.9%, the fuel inflation remained high at 14.9% and considering that much of fuel consumption in India is subsidized there is a pent up inflationary pressure in these fuel items which may burst out as soon as government wakes up to the deteriorating fiscal situation and claws back the subsidies.
Considering all the factors related to the WPI we should expect the RBI to adopt a wait and watch policy as far as repo rate is concerned and if inflation continues to remain high in the medium term the much expected softening of repo rate in March may remain an elusive dream for India Inc.
• RBI cut the CRR by 50 bps to release 32k Cr in the markets.
However this seems to be more of an act aimed at loosening the tight liquidity conditions faced by the banks than one aimed at stimulating the economy. The banks have been facing a very tight liquidity condition which is seen from the fact that average borrowing from LAF facility increased from 420 Bn Rupees during April September period to 920Bn Rupees during November and further to 1170Bn rupees in December i.e. an increase of 178% which is quite worrisome.
• Pressure on Rupee may continue.
The current account deficit widened to 3.7% which is above the 3% comfort level of the finance ministry, also the upcoming demand for dollars by India Inc to repay the maturing FCCBs of around 5.8bn $ in 2012 and flight to safety of global investors towards dollar assets is likely to keep up the pressure on Rupee. Capital flows in to India will continue to be under pressure as European banks which account for 15% of all loans in Asia pacific will cut down on lending to shore up their balance sheets.
Considering all the factors the first half of 2012 is going to be increasingly challenging, however turnaround can be easily achieved on investment fronts if the government comes out with a bold budget and introduces much needed economic reforms. As far as the monetary situation goes the RBI always had this mandate of controlling he inflation and attending to stability in the money markets, after having raised the rates 13 times in last 18 months we cannot expect the RBI to let go of the stranglehold so easily. The governor will most likely wait for the lag effect to kick in and will leave the responsibility of stimulating the economy on the government.
•The GDP growth moderated from 7.7% in Q1 to 6.9% in Q2 mainly due to deceleration in industrial growth from 6.2% to 2.8%. However what is of importance is why this deceleration has happened. There was a contraction on fixed capital formation where in real fixed capital formation as a percentage of GDP fell from 31.2% to 30.5%.Fixed capital formation represents the acquisition of fixed assets by private businesses, government enterprises and households and hence in totality represents the addition of capacity in and economy. The contraction in fixed capital formation along with a slowdown in non-farm credit from 21.3% to 15.7% represents reluctance on part of companies to take up new projects and add capacity. This assumption becomes more plausible when one considers that the slowdown ion non-farm credit has been sharp in real estate, infrastructure, cement and engineering goods. This is particularly worrisome when one considers the fact that at least on the infrastructure front the India story is supposed to be insulated from the global economic slowdown. India is in dire need of infrastructure projects and needs more than a trillion dollars for investments in infra. The slowdown in infrastructure is hence not due to slowdown in the global economy but due to lack of clarity on the policy front. Eg the government being a coalition one seems to be taking one step forward and two backwards, point being the flip flop in FDI in retail. So as far as this aspect of the economy goes it can be easily solved by the finance minister by showing some courage on the policy front
. • Inflation Internals
The WPI inflation which averaged 9.7% during April October 2011 period moderated to 9.1%, however this moderation was more due to the fall in the food inflation which entered negative territory. This decline was more due to a sharp decline in the prices of vegetables and fruits, while other food articles especially protein articles showed only a marginal decline from 8% to 7.1%. The weightage of fruits and vegetables in WPI is 3.84 as compared to 2.41 for eggs fish and meat, hence as soon as winter season gets over and fruits and vegetables prices start rising we can expect a jump in the WPI as well. Even the non-food manufactured item inflation remained high at 7.9%, the fuel inflation remained high at 14.9% and considering that much of fuel consumption in India is subsidized there is a pent up inflationary pressure in these fuel items which may burst out as soon as government wakes up to the deteriorating fiscal situation and claws back the subsidies.
Considering all the factors related to the WPI we should expect the RBI to adopt a wait and watch policy as far as repo rate is concerned and if inflation continues to remain high in the medium term the much expected softening of repo rate in March may remain an elusive dream for India Inc.
• RBI cut the CRR by 50 bps to release 32k Cr in the markets.
However this seems to be more of an act aimed at loosening the tight liquidity conditions faced by the banks than one aimed at stimulating the economy. The banks have been facing a very tight liquidity condition which is seen from the fact that average borrowing from LAF facility increased from 420 Bn Rupees during April September period to 920Bn Rupees during November and further to 1170Bn rupees in December i.e. an increase of 178% which is quite worrisome.
• Pressure on Rupee may continue.
The current account deficit widened to 3.7% which is above the 3% comfort level of the finance ministry, also the upcoming demand for dollars by India Inc to repay the maturing FCCBs of around 5.8bn $ in 2012 and flight to safety of global investors towards dollar assets is likely to keep up the pressure on Rupee. Capital flows in to India will continue to be under pressure as European banks which account for 15% of all loans in Asia pacific will cut down on lending to shore up their balance sheets.
Considering all the factors the first half of 2012 is going to be increasingly challenging, however turnaround can be easily achieved on investment fronts if the government comes out with a bold budget and introduces much needed economic reforms. As far as the monetary situation goes the RBI always had this mandate of controlling he inflation and attending to stability in the money markets, after having raised the rates 13 times in last 18 months we cannot expect the RBI to let go of the stranglehold so easily. The governor will most likely wait for the lag effect to kick in and will leave the responsibility of stimulating the economy on the government.
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