RBI to cut rates, but size of cut to moderate in FY13: CLSA

CLSA's senior economist, Rajeev Malik, tells CNBC-TV18 that RBI is not going to be dovish in the upcoming policy meet on April 17. He expects RBI to deliver a rate cut this time. Speaking to the channel, he says that the market will however have to scale down expectation of the quantum of rate movements in FY13.
 
Measuring up the situation currently, Malik says that RBI is still focused on risk to inflation despite slower growth. �It is time that RBI acknowledges the moderating growth trend,� he says.

According to him, RBI will have to engage in open market operations (OMOs). Nonetheless, domestic liquidity tightness has continued despite RBI�s actions. Below is the edited transcript of the interview. Also watch the accompanying videos. Q: What is it looking like more challenging the turf with every passing day on what is happening with bond yields, the macro, the current account numbers that you just saw?
A: I would describe it as a juggling act and the number of balls that are being juggled keeps on increasing. Of course that leads to a risk that look any kind of a movement or a shakeout will have a knock-on impact overall. Whether you look at the twin deficits, both on the fiscal side and on the current account side, if you look at lack of appeal as far as government�s own commitment seems to be concerned�
The more troubling thing is everyone keeps looking at RBI as the savior and there is only so much RBI can do. Even there, compared to what we started this year with, when everyone was overly bullish about the quantum of easing RBI will do, I think those are quickly being scaled back as they should be. Q: A lot of people are trying to explain away what is happening in the bond market as well saying it is only a short-term problem, this isn't a pointer of what will happen to the longer-term curve, would you go with that kind of optimism or do you think these kind of yields are here to stay for a much longer time than people reckon?
A: It is going to be a fairly volatile ride because to the extend that we do see a rate cut on April 17, which I do think the RBI will deliver, that will offer a bit of respite as well. But, the overall issue that everyone seems to be overlooking is, the impact of external liquidity as far as domestic money markets are concerned as well. When I talk about overall liquidity, I am not just talking about equity market inflows. If you think about portfolio inflows in Q1 i.e. the first calendar quarter, it was a pretty chunky number close to 13-13.5 billion across equity and debt side. Despite that the severity of domestic liquidity tightness has continued and that is despite RBI's own OMOs and CRR cuts.
One of the factors is that deposit growth has slowed down and there are several factors behind that. The one factor that seems to be overlooked all the time is the overall balance of payment impact to the extent that in the aggregate capital inflows are insufficient or just barely sufficient to finance the current account deficit that will have its own knock-on impact as far as domestic liquidity situation is concerned. That is where what is happening as far as yields are concerned, domestic liquidity and the balance of payments cannot necessarily be separated. The fiscal has a big impact there as well. So, if you just take a step back, there are quite a few factors that would argue that with a possibility of a rate cut, yields do come down a bit and RBI will have to engage in OMOs. But, the big shift that we still have to see is people scaling back their expectations fully about how much RBI is going to ease. I suspect the kind of guidance RBI will offer on April 17, is not going to be dovish at all. Q: That is what I was coming to, do you think it will explicitly lay it out, I mean while delivering or giving that 25 bps which everybody is expecting, do you think they will explicitly say that do not expect a lot from me during the course of the year because my hands are tied. Do you think that you will come away with that feeling at the end of the commentary or will it still be a guessing game between 50 bps and 125 bps over the next three-four quarters?
A: RBI will not necessarily say it in those words, but I suspect people will come away after the policy and will revise down their expectations about how much RBI is going to ease. Once again in a classic RBI manner, it is going to reflect more in terms of the number of risks at play. I do think one of the things that RBI will talk more about given the fact that this is the annual policy is the fact that the trend growth rate for India has come down closer to around 7%. So when we talk about what the current GDP numbers are, everyone tends to think of them deviating from 9% that India was posting. So the gap is a lot smaller than what most people will try and visualize.
Secondly, a trend growth rate tends to be a dynamic number. As and when the government gets its act together and contributes toward upturn as far as investment is concerned, the trend growth rate can go back up again. But as of now, we are very much holding pattern and I would argue risks are still more to the downside, both in terms of the global backdrop and the domestic backdrop.
I find it somewhat puzzling that people are happily talking about so called economic recovery and are not forecasting much more widening as far as the current account deficit is concerned. We are going to hit a record high in FY12, FY13 will be a even wider, and the only saving grace India has is on risk appetite and we saw late last year what happened when that has a bit of a shakeout. So there is very much a prayer on the lip and the hope in the heart kind of a momentum. Q: As you said there is a limited room in any case for the Reserve Bank to act and we seem to be in a pickle for the coming year as well. On those fill in the blanks in terms of GDP growth, inflation, fiscal deficit, have you already started tweaking targets?
A: The fiscal deficit, I found it somewhat most surprising because the word most often used to describe the latest budget was credible, and it is amazing that rather than 5.1%, the number will be closer to 5.5%. Of course, there is a moving target in terms of what happens with domestic fuel prices. We haven�t changed our GDP growth expectations or even inflation expectations per se, given that we are already at an extreme end in terms of the forecast range, but I do think within the budget, which was an important opportunity not much is necessarily coming through. A bit has been done and RBI will try and use that to justify a token rate cut, but I think people are underestimating how much more focused RBI is on risks to inflation despite slower growth.
Most commentaries in India approach it the other way round, they look at growth and then talk about what RBI should do, whereas the more pertinent thing, especially given the massive suppressed inflation risk is to look at the inflation trajectory and then spell out what potentially RBI can or cannot do. Q: The big pressure last year for a lot of people was when the rupee went down to 54, given the current account numbers that you saw on Friday, does it look likely that the rupee might grind at lowish levels for the better part of this year and we should not be expecting it to appreciate meaningfully?
A: My own sense is that RBI will perhaps handle the movements better unlike late last year, but I still think given a combination of what I think is going to happen on the balance of payments with a wider current account deficit and capital flows that may not be adequate for a smooth financing across the year and second half stronger US dollar view, rupee is going to be weaker.
So, I still stick with 55 per dollar for the year end. The only saving rates will be perhaps RBI has learnt something from late last year and hence will manage it better. It is important to bear in mind that currency adjustment given what India is going through is part of the solution; it is not part of the problem. Currency depreciation has negative impact on certain things, but that cannot be the reason for not allowing currency adjustments given what your balance of payments dynamics are. Q: You have been quite cynical on the issues of reform over here, how hopeful are you of any great action in terms of oil prices either with moving immediately on petrol or moving later on products such as diesel and LPG?
A: I don�t think any kind of a big bang approach is going to come about which is where the disappointing aspect will be. Allowing the petrol guys to adjust prices by Rs 3-5 is not sending out a strong signal, it is doing a bare minimum just to keep them afloat. We want to see stronger action and that comes in when we talk about lot of moving parts. Given the pressures down the line if suddenly government doesn�t have a choice and has to hike them, once again we come back to the whole inflation cycle. RBI cannot necessarily give a very dovish reading and then certainly have to reverse course as well. I am of the firm opinion that the long-term solution to inflation in India rests with government and its policies including reforms not with RBI and tighter monetary policy.