RBI’s message to Dalal Street investors: India too strong to mimic West

For the past couple of years, the focus of markets and financial stakeholders on hitting the inflation target of 4% was diluted. The focus was to support growth and be okay with turning a blind eye to inflation breaching the upper limit. Furthermore, the market seemed a little too much interested in the Fed rates and assumed it is a given that RBI would follow suit. The RBI’s governor address was a wake-up call stating it’s time to start looking at the seriousness of Indian inflation closely. As quoted by the governor “Breaking the Core Inflation persistency” is the key focus of RBI and very rightly so in my opinion.

The peak of inflation as stated by the deputy governor is behind us but the moderation of inflation is grudging. The Core inflation as per the latest data is still hovering at 6.2%. This has taken a big toll on the consumption of the mass segment. As evident by the latest quarterly result, although the demand for premium products has been strong, the low and mid-segment products are witnessing poor growth. This is a classic example of a K-Shaped recovery where the economically lower segment is not able to cope with rising inflation. RBI’s Arjuna eye on Inflation is beneficial to this large segment of the population and in turn good for sectors like FMCG, Staples, Auto, etc. which are dependent upon the revival of the heartlands of India.

The RBI lowered its GDP forecast for FY23 to 6.8% from 7%. This still is an impressive growth rate in comparison to our global peers. The RBI is strategically using this period of good growth for hiking policy rates so that the impact on growth is less visible. Having said this, the growth in certain segments remains a cause of concern. The manufacturing in Q2FY23 witnessed a YoY de-growth of 4.3%. The problem in manufacturing has been a continuing worry, although government spending has been robust, the lack of private investments remains a concern.

As per the RBI data, out of 200 bps only 46 bps have been passed on through deposits. Banks have been enjoying healthy margins in the past quarters. Despite slower deposit growth, banks are able to generate strong credit growth as they are sitting on healthy cash. However, going forward Deposits rates of banks are expected to increase at a faster rate.

With deposits increasing and bond yields rising it will also be interesting to notice whether the incremental investments into equities experience pressure with bonds getting attractive.

Despite the US rate hikes, the US wages are growing at 6% annualized, this poses uncertainty on when the Fed will stop hiking rates. Thus, by maintaining the stance at “Withdrawal of Accommodation” RBI has dodged being in a box and will have the liberty to look at future data points to navigate its future course of action.

Overall, the RBI’s commentary has tilted toward a Hawkish stance and has reminded the market that India is too big and strong an economy to have a policy mimicking developed countries. Whether RBI would be content to just see the momentum of core inflation dropping or actually want it to reach 4% levels would determine the actual peak in interest rates.


Expectations of the week

The upcoming week has a series of important events lined up. The three major economies US, UK & India will be reporting their inflation numbers. Therefore, global markets will have a keen eye on these figures and would hope for an improving scenario. Further, the US and UK will be announcing their interest rate decisions and this will keep the global markets on their feet.