History shows growth woes will override Indian rupee defence

Jul 27 2013, 15:48 IST
Comments 0
A roadside currency exchange vendor is pictured through rupee notes in the old quarters of Delhi (Reuters) A roadside currency exchange vendor is pictured through rupee notes in the old quarters of Delhi (Reuters)
SummaryHistory suggests these decisions are deliberate and ultimately growth is the overriding factor.

flows, and India remains one of the most difficult countries in which to do business.

No wonder, critics say, that the current account deficit has blown out to a record 4.8 percent of gross domestic product, or about $88 billion, in an economy whose growth has slowed to a decade low of 5 percent and where consumer inflation is nearly 10 percent.

COLLATERAL DAMAGE

"Yes, exchange rate stability is the focus now in the short-term," said a central bank official, declining to be named as he was not authorised to speak to the media. "But that is because, in the long-term, we want to protect growth for which we have to focus on the exchange rate in the short-term."

That view point was backed up by India's chief economic adviser, Raghuram Rajan, who told a television channel on Thursday that policy measures were geared to stabilising the currency with "minimal damage" to growth.

Tasked with controlling inflation, keeping the economy growing and ensuring financial stability, plus the pressure of pleasing its political masters, it is often of no surprise that the RBI makes growth a priority.

Even though rates were raised 13 times between 2009 and 2011, economists often felt the RBI was behind the curve and allowed prices to stay too high for too long.

Likewise, while the RBI raised rates to defend the rupee during periods of turmoil in 1998, 2000, 2008 and 2011, the policy tightening was often quickly reversed within two to six months, analysts said.

This time, the central bank is in more of a bind than normal. With currency reserves falling rapidly - at $280 billion they cover just 7 months of imports - and external debt worth $172 billion, a fast-slipping currency could eventually risk financial stability.

Yet, raising its 7.25 percent overnight repo rate would be politically difficult as the ruling coalition has to call a general election by May.

"Policymakers are trying to achieve a fine balance by squeezing liquidity at the short-end even as they try to cap yields at the long-end," JPMorgan Chase said in a client note. "Yet, some transmission to long rates, funding costs and investment decisions is inevitable."

The RBI's decision to raise its short-term emergency funding rate by 300 basis points has already driven 10-year government bond yields up 100 basis points and short-term corporate debt up 200 basis points across the board.

It is inevitable that growth and therefore foreign inflows into the equity market will

Single Page Format
Ads by Google
Reader´s Comments
| Post a Comment
Please Wait while comments are loading...