The recent commentary from the US Federal Reserve has infused substantial volatility into global financial markets, with large spillovers and knock-on effects on emerging market economies (EMEs), Reserve Bank of India (RBI) governor Shaktikanta Das said on Monday.
“This episode is yet another demonstration of the point made in my media interview on August 23, 2022, that while forward guidance can be a useful policy instrument in an accommodative monetary policy phase, it can be quite difficult to provide coherent and consistent guidance in a tightening cycle,” Das said at an event hosted by the Fixed Income Money Market and Derivatives Association of India (Fimmda).
At the Jackson Hole Economic Policy Symposium 2022 last week, Fed chair Jerome Powell clearly emphasised the US central bank’s prioritisation of inflation concerns over growth. Markets across the world tanked in the wake of his comments.
Das added that the difficulty in offering guidance gets further compounded in a highly uncertain environment. “Such forward guidance may even have destabilising effects on financial markets, especially if the subsequent policy actions are at variance with earlier pronouncements,” he observed.
Amid a turbulent global environment, the resilience exhibited by Indian financial markets reflects the robust macroeconomic fundamentals of the economy, Das said. Among India’s chief strengths, he enumerated the country’s status as one of the fastest-growing major economies in the world and its favourable growth differential, reflected in the surge of portfolio flows into India since July 2022.
The recent softening of commodity prices and supply chain pressures have eased the terms of trade shock that India faced in the aftermath of the pandemic and the war, Das said. He reiterated that with the consequent easing of imported inflation pressures, India’s consumer price index (CPI) inflation has peaked in April 2022. Further, he took comfort in the fact that the average Indian basket crude price in August at $97.4 per barrel has turned out to be lower than the RBI’s assumption of $105 for the full year.
“The shift in the commodity price outlook is also altering the assessment of India’s current account deficit in 2022-23, which is now expected to remain well within sustainable levels,” Das said. He listed India’s large buffer stocks of food grains, foreign exchange reserves of $561 billion and the health of the banking system as other sources of comfort.
The governor went a step ahead of the RBI’s usual line that it intervenes in the currency markets only to curb volatility, stating that the central bank was ensuring there was no “overshoot” in the rupee’s level. “Our endeavour amidst the extraordinary events unfolding globally on an ongoing basis has been to anchor expectations and allow the exchange rate to reflect the fundamentals rather than overshoot,” Das said.
Some market experts have taken the view that the RBI should allow the rupee to track fundamentals rather than intervening aggressively to protect a certain level. The fall in the rupee was set off earlier this year as a result of foreign fund outflows amid monetary tightening in the US and other advanced economies. The domestic currency touched an all-time low of 80.11 to the US dollar on August 29.
Das lauded money market participants’ support in helping the government smoothly execute its borrowing programme, despite the increased issuances in the last two years. The normalisation of liquidity conditions and the transition away from Libor has also been achieved with relative smoothness, he said.
However, he asked market participants to improve their performance in terms of delivery of services to retail investors by ensuring liquidity for them throughout market hours on the NDS-OM platform. The response time and onboarding of customers on the FX-Retail platform can be faster, Das said.
With the increased linkages between domestic and global markets, banks must put in place adequate supporting infrastructure backed by expertise in risk management. “As the footprints of banks in India increase in the offshore markets, it is expected that price discovery of rupee products will also consolidate in the onshore market,” Das added.