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Jun 21, 2013, 01.50 PM IST | Source: CNBC-TV18

See low gold demand; real FII exodus is yet to come: Nomura

Sonal Varma, economist, Nomura, says the fall in gold prices should lead to a fall in imports too. She adds that as gold returns are not going to be as high as they were in the past, a genuine investment demand should start to moderate.

The demand for gold is likely to fall in India, believes Sonal Varma, economist at Nomura. Varma says the fall in gold prices should lead to a fall in imports too. She adds that as gold returns are not going to be as high as they were in the past, a genuine investment demand should start to moderate.

Also read: Rupee weakness affects India credit profile: Moody's

Additionally, Varma says the Indian equity market is likely to see some volatility on the back of a weakening rupee and foreign institutional investors (FIIs) pulling out their money from the market. 

"We are still vulnerable on the upside given the quantum of flows that have come in over the last 12 months. Clearly, only a fraction of that has gone out. So, this transition from a liquidity driven model to a more fundamental driven model can cause some more volatility in the coming months," adds Varma in an interview to CNBC-TV18.

Below is the edited transcript of Varma’s interview to CNBC-TV18.

Q: Given all the developments have you guys revised your target on the rupee and have you revised your targets for FY14 growth?

A: Rupee is still moving so it is a moving target. But at this stage, we are still vulnerable on the upside given the quantum of flows that have come in over the last 12 months. Clearly, only a fraction of that has gone out. So, this transition from a liquidity driven model to a more fundamental driven model can cause some more volatility in the coming months.

The bias for the currency right now is on the higher side. Ofcourse, that means that there would be even more pressure on the government to come out with more reform measures which is medium-term positive for the country, but near-term there is some uncertainty.

On growth, we were expecting a growth of about 5.6 percent for FY14 and there is no reason to significantly downgrade the numbers at this stage. Looking at some of the underlying indicators, the sign is that growth is neither picking up nor is it falling down at this stage so, we are bottoming out on growth. Seems like a prolonged bottoming out so far. If monsoons are good, there should be some improvement in growth over the last year’s level but at around 5.6 percent we are okay on the growth front.

Q: Have you changed your current account deficit (CAD) predictions for the full year in the light of what has happened with the currency of late?

A: For India, the immediate impact of a weak currency actually is worsening on CAD because imports are slightly inelastic and exports are more responsive to global demand. Our estimate is that every 10 percent currency depreciation leads to about 40 basis point increase in the CAD.

At the same time, the fall we are seeing in gold prices is positive in a sense that gold imports should come down. Apart from these restrictions, the two fundamentals drivers of gold have been as a hedge against inflation and secondly as an investment demand driven by raising returns on gold.

If one continues to see a moderation in consumer price index (CPI) inflation over the course of the year and given gold returns are not going to be as high as they were in the past, genuine investment demand should start to moderate.

These restrictions are not really going to be effective overtime but if there is a fundamental shift in the drivers, gold demand should come down over time. Net-net what that means is that we still have a CAD of around 4.5 percent of gross domestic product (GDP)- better than last year but does not give any sense of comfort given the volatility in terms of finance in this deficit.

Q: Do you think the Reserve Bank would have changed its view over the last couple of weeks in terms of how much relaxation in monetary policy they can afford to do now in the light of all the changes that have happened?

A: I think so. When the May policy was presented the RBI indicated that they were ready to calibrate policy in both directions and current account was explicitly stated as a risk. This time, the focus on external sector in fact was not as explicit as we had expected. But implicitly without saying it outright, the concerns on external sector are quite significant. When one has currency under pressure, the text book response of central bank is that you start hiking interest rates. In India’s case, it is debatable whether flows are growth sensitives or rate sensitives so I don’t think the text book approach can be applied outright.

READ MORE ON  Sonal Varma, gold, imports, GDP, Nifty

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