See 150 bps rate hikes from RBI by March 2011: Nomura

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In what's being seen as a hawkish move, the Reserve Bank has hiked the cash reserve ratio (CRR) by 75 basis points to 5.75% in its credit policy today. The hike will take place in two stages, a 50 basis points hike will be with effect from February 13 and a further 25 basis points from February 27. The move will mop up Rs 36,000 crore of excess liquidity from the system.

In an interview with CNBC-TV18, Rob Subbaraman, Senior Economist, Nomura Securities, gave his perspective on RBI's monetary policy and Nomura's view on interest rates and inflation ahead.

Here is a verbatim transcript of the interview. Also watch the accompanying video.

Q: How did you read the policy and do you think it's a hawkish policy despite no repo action?

A: I think it is a little bit more hawkish than the market expected. We at Normura were expecting a 50 CRR but also a 25 rate hike. So in a way it was a little bit of a compromise in between what the market thought and probably a little bit less than what we were expecting.

We think there is a lot more to come. We think India's economy is gaining a lot of momentum now. To avoid overheating further down the track, we will need to see more aggressive rate hikes and CRR hikes. I don't think this means we need to panic. I think this is a good policy to avoid a boom-bust cycle.

Q: How aggressive do you think the pace might be because some have pointed out that there is a chance there will be inter-meeting rate hikes as well by the RBI?

A: It is certainly possible, the next meeting is April. There is a good chance that there will be a rate hike before April in our view. We are expecting a 150 basis points in rate hikes between now and March 2011, and 75 basis points of CRR. But also we expect significant currency appreciation.

We think this is necessary. We think by March this year WPI inflation is going to be in the double digits. So that is higher than what the RBI thinks. That means very low real interest rates right now. So there is a need to do that to avoid inflation expectations getting out of the genie bottle.

Q: What would the premise of an inter-meeting hike be if the RBI did not move now, but you think it moves somewhere between now and April, do you think it is to tie in with fiscal tightening which it wants to see or will see in the Union Budget and then try and probably synchronise with that or what is the reason otherwise for not doing now but to move in a months time or couple of months time?

A: I think we have to also bear in mind it's a very difficult policy environment because while looking at India in isolation, we are seeing growth picking up, we are seeing inflation picking up. But if you look at it in a more global context, the G3 economies are still quite weak. We have problems in the Europe periphery right now.

So I think RBI is trying to send a signal that they are moving towards tightening now. They are starting to remove accommodation, but they want to do it in a controlled way. They don't want to be too aggressive and then if something bad happens overseas they find that they have been too aggressive.

I think they are going to move in a calibrated way which I think is good. I think the key thing to watch is going to be inflation. If we start to see inflation continue to move as we expect it at Nomura, if it does get into double-digits before March even, an inter-meeting move is certainly quite likely.

Q: Should the eye move now from the monetary to fiscal? Would you expect to see the Budget do some of the work that the RBI policy may have left off in the form of taxation hikes perhaps?

A: I think we will see over time fiscal consolidation starting to take place. But I think one thing to keep in mind is that fiscal stimulus can take time to feed through to cool down the economy. So if you are starting to tighten fiscal policy, I don't think it will be as effective as slowing down the economy as monetary policy especially in aiming at inflation and trying to cool inflation expectations.

But I think we are probably not as concerned about the fiscal situation as the inflation situation. To us, the number one concern for India given it is a supply constrained economy is to make sure inflation doesn't get out of control.

Fiscal policy, if we are right, then India's economy is heading towards 8% plus growth in the coming years. I think that in effect will go a long way in helping to actually bring down the fiscal deficit because it will lead to buoyant revenues.

If you look at India's past before this global recession, that was a key way that the fiscal deficit actually did narrow was just through strong growth. It was a very easy but simple way to help improve fiscal situation.

Q: Do you think any of these moves either the 150 bps hike through the next four quarters or the fiscal tightening will impair growth in India in any major way because the market is more focused on that on whether we will see growth coming through over the next year or so. Do you think we can still bet on that?

A: My team which looks at whole of Asia, we don't think these tightening measures, which we are starting to see in India now and in China in recent weeks is really going to slow down these economies that much.

In our view looking at the data, India and China have a lot of momentum now in these recoveries. And you really do need to start to see some tightening in policy to make sure that these economies don't exceed their speed limit, because if they grow too fast - if India starts to go to 9-10% growth without any policy tightening, you are going to get inflation out of control, maybe asset bubbles and then you have got to really put your foot on the brakes later on, and then you get that boom-bust cycle. That is not in the interest of anyone.

So I think the RBI is doing a very good preemptive, judicious policy here of trying to be early to stop the economy growing too fast and leading to problems further out. I would say the same for China.