Credit policy: RBI did right thing, says HSBC Global

Yesterday's credit policy was a bit of a jar. Majority had expected a CRR cut. That didn't come. A minority expected a repo cut. That too didn't come. But the RBI indicated that there is a sure shot cut in the Q4.

RBI policy review: Focus on growth likely to return In an interview to CNBC-TV18, Leif Eskesen of HSBC Global Research says the RBI did the right thing. "Consumer price index (CPI) is continuing to move up. In addition to the factors related to inflation and inflation risks, which are constrained on the ability to move, you also have a current account deficit. That is far too high for comfort. It is another constraint in monetary policy easing. Also, it is important to get fiscal policy in the right direction, get more traction of fiscal consolidation, and fiscal tightening," he elaborates. Eskesen further says January rate cut will be contingent on December WPI, and reform momentum. He sees FY13 WPI inflation at 7.25-7.5 percent. He sees FY13 GDP at 5.2% and FY14 GDP at 6.2 percent. Below is the edited transcript of his interview with CNBC-TV18's Latha Venkatesh and Ekta Batra. Q: Was that a good decision from the Reserve Bank of India (RBI)? If one looked at their trajectory of inflation, which they gave us on October 30, during the policy, the actual numbers for October and November are a good 50 bps lower than their estimate. Why not advance the promised cut? A: I think the RBI did the right thing. They continue to walk the straight and narrow. We have inflation coming off over the last two months, both headline inflation and core inflation. That’s quite encouraging. But as the Reserve Bank of India (RBI) also highlighted that if you look at other gauges of inflation such as the consumer price index (CPI), which is a broader and deeper and arguably a more representative measure of inflation, is continuing to move up. It remains quite firm. There are other gauges of inflation like the Purchasing Managers’ Index (PMI), underlying sub indices for input and output prices, they are also showing quite a firm degree. In addition to the factors related to inflation and inflation risks, which are constrained on the ability to move, you also have a current account deficit. That is far too high for comfort. It is another constraint in monetary policy easing. Finally, RBI also has to get a helping hand, as we talked about many times before, from other policy fronts. It is important to get fiscal policy in the right direction, get more traction of fiscal consolidation, and fiscal tightening. The overall macroeconomic policy stance actually has to remain quite firm. In addition to that, if there is more progress on structural reforms, efforts to get more traction on implementation of infrastructure related investment projects, it can help to revive the supply side of the economy. That could lift growth, but also ultimately help containing inflation pressure. So, there are number of stances that have to be aligned before you can see rate cuts. Q: The fall in wholesale price inflation in October and November accompanied as it was by a fairly seminal fall even in the core inflation, given that, do you think that inflation might change track and start firming up again or do you feel that this is some kind of a sustainable dip? What are your year-end numbers? A: We are looking at WPI inflation close to current levels by the end of fiscal. So, we are not expecting much of an easing in headline inflation going forward on the back of that. But we also have to be mindful of is if you look at the historical revisions, which we have so far had for the WPI numbers; they have been consistently revised up. That also suggests that the last two inflation readings could quite likely be revised up from current levels. That also needs to be factored in to some extent. I think it’s important not just to look at WPI; it’s important to also look at CPI and other gauges of inflation. On that front, underlying inflation pressure is still there. If you look into next fiscal year, next calendar year, we are looking for a gradual decline in inflation pressures. But it is contingent on two things. One is that you have continued progress on fiscal consolidation, fiscal tightening in a sense taking over more control on the demand side. Also, there is traction on reform measures, which can ultimately to see being reinvigorated and get traction on supply side. That’s also important both for inflation as well as for growth on a sustained basis. But RBI has teed up for potential rate cuts in the first quarter of next year, January-March quarter. We think it is quite likely; it could possibly be as soon as January. But January cut will certainly be contingent on the next inflation readings and some assurances that the reform momentum continues. _PAGEBREAK_ Q: The numbers with regards to trade deficit for October and November haven’t been pretty at all. What is your estimate with regards to FY13? Where do you think fiscal deficit could end? Where would you be placed for current account deficit? Would it be worst than FY12 or would it be marginally better? A: If you start with the fiscal deficit, the current fiscal year, we think it’s possible that the deficit could end up in the neighbourhood of 5.5 to 5.8 percent of GDP. The reason for that is when you look at tax collection partly because of slower than positive growth, if you look at 2G license pre-auctioning sales, privatisation receipts are quite likely to get slippage relative to Budget targets. The subsidy bailout thing will come out higher than budgeted. The government has to contain spending and try to be more seriously holding back on that front. They will do as much as they can. I am just a bit sceptical about to extent to which they can come down to 5.3 percent. I think will come in higher that. Next fiscal year, they are probably going to target a deficit of 4.8 percent in light with a medium-term to trajectory. They will of course have to rely on assumptions about further narrowing down of the spending on subsidies partly because they want to make it more efficient. They also have to align more ad hoc adjustments in diesel and kerosene prices to contain that side of it. Further efforts to rein in revenues potentially through indirect taxes and more step-up efforts on tax administration could also be on the cards in addition to choosing a more compression of spending. Now, in terms of the actual outcome, we are still looking at a deficit in fiscal year 2014, next fiscal year, possibly in a neighbourhood of 5.2-5.3 percent of GDP. They are going to move in the right direction, but maybe not quite as fast as the government is concerned. The current account deficit, this year we are looking at 4.4 percent of GDP, unchanged since last fiscal year. Next fiscal year we are looking at a current account deficit of 3.7 percent of GDP. So, some narrowing on that front as well, but quite gradual. Q: Where do you think we stand with regards to S&P? Has the threat of S&P acting receded or is it the same or has it worsened at this point? A: I think it has receded with the progress we have started to see on the policy front. We have had moves with announcements in September policy reforms. We had seen bills coming through the winter parliamentary session more recently with banking bill. The things on that front are moving in the right direction, the reform agenda is inching forward. That’s a positive. I also think that the government is genuine about fiscal consolidation and want to move things forward on that front. This current fiscal year is going to be a bit difficult because we are so deep into the fiscal year already to maybe potentially reach the 5.3 percent. That will be a challenge. But they will probably move in the right direction. There will be some narrowing of the deficit potentially relative to last year and then next year as well there would be a continuation along those lines. So, I think these factors combined as long as they sustain fiscal consolidation reform agenda that would help them potentially fend off a downgrade on that front. The sense, however, is from our perspective, they will probably retain the downward bias on the rating outlook, but atleast up until after the general elections. Q: Are you looking to revise the growth forecast higher? We got the green shoots in the October industrial output number as well you have been talking about the reform momentum which could spur some kind of capex activity. What is the reading for Q3 and Q4? Are you revising anything higher for the next year? A: We have just released a new set of forecast a couple of weeks ago. Basically, we are looking at 5.2 percent for this fiscal year, 6.2 percent for next fiscal year. We could, I would say broadly speaking, move more or less sideways on growth over the next two quarters. When we get into next fiscal year, we will start to see a gradual recovery on growth. _PAGEBREAK_ Q: 5.2 percent for the full year, FY13. Are you expecting a sub-5 number for Q3? A: Yes, we could get sub-5 percent on the back of agriculture. In the current quarter, potentially it is sinking a bit lower in terms of growth rate relative to what we have seen there. We have also seen there is some moderation in growth in the services segment. That could also see things moving sideways. I think the main reason for a slight deceleration potentially relative to the previous quarter is related to the agricultural sector. If it comes out more or less in line with normal output there, we are looking at lagged effect of the deficient summer and monsoon kicking in and having an impact on output there, then there could be more like sideways movements over the next couple of quarters. We will see a gradual uptick in growth next year, but underlying growth, if you take out agricultural sector, is more or less stabilising as we see it. A couple of quarters further down the road we will see a gradual pick up in growth on that front. Q: How is the RBI going to act in 2013? Do you think that is going to be frontloaded, wait and then possibly act again or do you think its going to be staggered in its approach? A: They have teed up for potential rate cuts in the Q1 of next year. We do not think there is much room for rate cuts. We build in assumptions of 50 bps for next year at the moment. All of that could potentially come in the first quarter of next fiscal year and then they could remain on hold and potentially not do anything further beyond that.