The Reserve Bank of India's Monetary benchmark Committee (MPC) voted to maintain the benchmark repo rate at 6.5 percent on Friday.
In the context of liquidity in the system, RBI Governor Shaktikanta Das said, “It’s a turning pitch and I would like to play my shots very carefully.”
Can he say the same for the global headwinds that are now likely to put upward pressure on inflation in India via the currency or imported inflation route.
The MPC will need to balance the need to keep inflation under control with the need to support economic growth. Let’s take a look at the global headwinds:
Steady dollar appreciation
The US dollar index (USDX), a measure of the value of the US dollar relative to a basket of foreign currencies, is on the rise. In the last two months, it has gone up by about 6 percent from 100 in early August to 106 in this month. This indicates that the US dollar is strengthening against a basket of major world currencies. One of the reasons could be that the US Federal Reserve has indicated that there could be one more hike in its benchmark interest rates. The current short-term rates are already at a 22-year high. The geopolitical uncertainty is also helping the US, as investors are flocking to safe-haven assets such as the US dollar.
10-Year bond yields are rising steadily
The US 10-year bond yield has been rising steadily in the last few months, reaching a 16-year high of 4.73 per cent on September 21. In fact, the 10-year yield has gone up by 20 per cent since the August policy. The yield was 4.04 in early August and closed at 4.88 percent on October 5. The higher-for-longer interest rates in the US and the potential risk emanating from the rising national debt are contributing to higher yields. PIMCO co-founder Bill Gross, who is known as the Bond King, has predicted the 10-year US treasury yield to touch 5 percent in the near term. PIMCO is one of the world's largest investment management firms, known for its expertise in the bond market. There are similar predictions by US-based hedge fund managers Bill Ackman and Larry Fink, Chairman and CEO of BlackRock, who both have said that the US Treasury yields will soon breach the 5 per cent mark.
Relief on oil prices
The movement of oil prices have led to some nervous moments as Brent crude prices surged from $85.34 per barrel during the August policy to a high of $ 95-96 per barrel in the last week of September on the back of strong demand and supply cuts. The prices, however, have cooled a bit to $85.19 in the first week of October. In fact, the two big oil producers—Saudi Arabia and Russia—have decided to continue with voluntary production cuts, which could push prices up. However, the extension of the oil supply curbs is also likely to have negative consequences for the global economy.
The trade deficit so far looks good. In the first five months of 23-24, the trade deficit was $37.49 billion as compared to $60 billion in the corresponding period. So far, the data for the current account deficit (CAD) is up to June. In the first quarter (April to June) of 2023-24, the CAD was lower than expected at 1.1 percent of GDP. This is a significant drop from 2.1 percent of GDP in the same quarter a year ago. However, the situation is expected to change dramatically during the rest of the financial year as crude oil prices remain high. Given the global recession and rupee depreciation, exports are going to be impacted. The high crude oil prices and shrinking exports are likely to widen CAD in the current fiscal year.
FIIs outflows
The foreign portfolio investment in both equity and debt has turned negative in September and October month. For the first time in seven months of 2023, the FPIs sold Rs 13,810 crore in September and Rs 5,834 crore in the first week of October. This is the result of rising bond yields in the US and a stronger dollar, which is reflected in the jump in the dollar index.
Rupee depreciation
The rupee value against the US dollar has also depreciated by some 50 paise since the August policy. The rupee value was around 82.73 in August and has now depreciated to 83.24 in October. The rising US interest rates as well as the stronger dollar are impacting the rupee, as outflows are higher than inflows.
The foreign reserves have been declining after touching an all-times high of $642 billion in September 2021. Currently, the forex reserves are at $590 billion, as recorded on September 22. When the monetary policy was announced in August, the reserves were at $603 billion. The RBI often intervenes in the forex market to reduce the high volatility.
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