Trade deficit improvement will help rescue rupee: StanChart

Most measures taken to rein in the Balance of Payments (BoP) have a very text-book approach and hence, are being completely ignored by the market, says Samiran Chakrabarty of Standard Chartered.

"Once we start seeing better trade deficit numbers on a monthly basis, we might see even single digit trade deficit numbers. That is the time when the turnaround can happen on the currency, but one will have to wait another 20 days for that," he adds. Also read: May cut Sensex EPS target; fall like post-Lehman: Raamdeo
Additionally, Chakrabarty says that the rupee’s fall was much faster than anyone had anticipated and further adds that the market thinks the central bank, or the Reserve Bank of India, may withdraw its various rupee volatility curbing measures as they are not working. Below is the edited transcript of Chakrabarty’s interview to CNBC-TV18. Q: Just a few days before in Indianomics we were arguing that with the rupee depreciation there has been a decrease in the non-gold, non-oil imports. We have seen a further depreciation of the currency – if the deficit were to come down to USD 8-9 billion which seems on the cards that much will be met by the invisibles. Do you think we are reaching a level of somewhat some current account balance and therefore perhaps fundamentally the rupee’s decline is maybe over now?
A: I am of the view that the market is currently ignoring any positive signs that might come out of the lower trade deficit number. It is entirely focused on a very text-book kind of balance of payments (BoP) crisis/ banking crisis arising out of high current account deficit and high interest rates.
Till the focus stays on the BoP crisis/ banking crisis, one would see pressure on the currency. But once we start seeing better trade deficit numbers on a monthly basis, we might see even single digit trade deficit numbers. That is the time when I think the turnaround can happen on the currency, but one will have to wait another 20 days for that. Q: Why do you address this as a balance of payments crisis – it is a current account deficit issue for sure but do you really see BoP crisis when one has reserves of USD 280 billion?
A: It is my view that USD 280 billion reserves is quite a lot, that is not the view that investors are taking towards India. We are hearing that if we do not get any FII inflow this year or if we get USD 5-10 billion of FII outflow on the back of Fed QE tapering, then even funding USD 70 billion current account deficit might be significantly difficult. Also, once that triggers currency depreciation, then that has its own ramifications for the economy which investors typically do not like. Even funding of the current account deficit is an issue that is top of investors' mind.

Q: I am going to focus on something which is little more near-term which is gross domestic product (GDP) data which is out in the next 10 days. One, what are your estimates with regards to that GDP figure and what is your estimate for the entire FY14 considering the amount of pressure that the INR has seen as well as the Reserve Bank of India measures?
A: For the first June quarter-ending, we are looking at below 5 percent print on the GDP that looks quite likely now. We have seen the manufacturing side showing negative growth for the quarter. Mostly likely, even the construction numbers will be lower and even from the service sector side, we haven’t seen very encouraging signs in this quarter.
Going forward, the critical issue is how long this monetary tightening continues. There is a thought in the market that since these measures have not been effective, the policy makers will be withdrawing them very soon.
However, if the policy makers think that this is the kind of protective shield against any kind of outflow following QE tapering, then they might stay longer than what market is anticipating today. In that case, we might have a significant downside risk to our GDP growth forecast of 5.5 percent. In any case we are reviving that number almost on a day to day basis because the real economy is getting impacted by the financial market turmoil that is for sure. Q: What is happening in the bond markets? One would have thought that 9.25 percent bonds could be attractive. This is way above the wholesale price index (WPI) number so clearly it is unnatural bond level that is available- Rs 85 for the 7.16 who would have thought it would be available at Rs 85. Why aren’t buyers coming in?
A: Firstly, the rupee depreciation has been much faster than any one could have anticipated so that is leading to pressure on the bond markets where people are correlating the forex move with the rates move.
The other is that there is now a thought process developing that with rising inflation, even if these measures are withdrawn by the RBI at some point of time, the withdrawal will not be complete withdrawal of the entire 150-200 basis point increase but maybe half of that.
That calibrated withdrawal would mean that even in the new equilibrium, the rates will probably be higher than what it used to be and that fear is putting pressure on bond yields. Furthermore, let’s not forget that August was the month of maximum supply. Since, we are also having commercial mortgage-backed securities (CMBS) along with the auctions, the little bit of hope that bond market had that some of the auctions will get cancelled has also turned out to be untrue. Because of all these reasons, we have seen significant pressure on the bond yields in the last couple of days. Q: Do you think that the RBI is worried about this kind of almost complete illiquidity in the bond markets and this fantastic yield and that might force them to rethink? Is this kind of a crisis situation in the bond markets or not?
A: Ideally, the monetary policy move in the text-book sense was to increase the short-term rates while keeping the long-term rates as close as possible to where it was. So, the idea was to invert the yield curve as much as possible. Unfortunately, what we have seen is kind of a parallel shift of the entire curve which was not the ideal situation for the policy makers.
Given the fact that the banking system holds a significant amount of duration, this kind of increase in yields will impact the profitability as well of the banking system. At some point in time, that might become a policy consideration. In my view this is not yet a crisis but this is probably not the kind of indented consequence of the policy makers that were taken last month.