Almost a billion dollars of foreign flows found their way into the Indian stock market in the week to February 1, with India getting its fair share of EM allocations. EM funds saw net inflows of $3.5 bn in what seems to have been a something of swap from DM funds, which saw net outflows of $3.4 bn. Liquidity could be here to stay with the Financial Times reporting last week that European banks are readying to borrow up to twice as much from the second round of Long term Repurchase Operation at the end of the month; the first tranche, on December 21, 2011, saw 523 banks picking up euro 489 billion, a move that has completely changed the mood in the markets.
Moreover, the dovish rhetoric from the Federal Reserve has driven up speculation that it may stimulate the economy once again after two rounds of buying bonds for which it spent $2.3 trillion. Although the Fed lowered its outlook for growth in 2012, there are conflicting views on whether it will go ahead with QE3, since growth is picking up?US GDP came in at 2.8% in the December 2011 quarter?and unemployment has dropped off to a three-year low of 8.3%.
Nevertheless, most central banks are seem to be leaning towards loose monetary policies, brushing aside concerns on inflation for the moment.This may be because inflation has been coming off in country like China. The only central bank that has expressed some reluctance on easing money is the UK central bank; ironically at a time when the economy contracted 0.2% sequentially in the December quarter and could be heading for a recession. So, as governments everywhere attempt to bring back growth, money should remain plentiful and as the Fed has promised, cheap. And while the financial crisis in the euro zone may be far from being resolved, the liquidity being created in the meanwhile is likely to drive up prices of risk assets.
Clearly, with $ 3 billion in the equity kitty so far this year, India has got its fair share of the flows. In addition, the big appetite for Indian debt paper has seen more than $ 3 billion coming into the bond markets; the rupee has retraced most of its losses bouncing back to 49 levels against the dollar. That means less imported inflation, which is helpful at a time when price of crude oil has inched up to levels of $114 per barrel and threatens to stay there.
Indeed, while the Reserve Bank of India (RBI) may want to prop up production by cutting interest rates, it may perhaps have to wait till it?s a little more clear on the trajectory of oil prices. The drop off in commodity prices in 2008 allowed the central bank to cut rates from cycle highs when the Lehman collapse hit the world; the repo rate which was at 9% in July 2008 was down to 4.75% by April of the following year.
But this time around, it?s a tricky situation. The rupee needs to stay put at current levels so that inflation remains in check and to facilitate that growth much make a strong comeback so that foreign investors continue to invest. While corporate numbers in Q3 FY11 have been disappointing, the data in terms of the jump in the HSBC manufacturing and services PMI in January is more encouraging. While one would want to see concrete evidence in the revival of the investment cycle, it?s good to know that sales of cement are holding up or that there are more takers for cars and motorcycles. Let?s hope the ECB?s strategy pays off and growth returns to the world.