Year 2015 will be goldilocks period for India: Nomura

Reema: We keep saying crude prices -- it is a big positive for India but the government is not passing on the crude price fall to consumer, so freight rates may not fall as much as 30 percent fall that we have seen in global crude prices. Do you think that the consumer price index (CPI) may therefore not fall so much, is there a 5-10 percent chance that the governor may not be able to cut rates?

A: More than crude oil price, I think the biggest positive for inflation has been the big drop we have seen in rural wage growth because ultimately when we are talking about CPI, we know that 80 percent of CPI is non-tradable where the role of rural wage in driving input cost is much greater than the role of crude oil price in driving input cost. So yes, the consumer is probably not seeing the benefit of oil price drop as of now but I don’t think that significantly changes the view on inflation, which in any case is headed to undershoot the Reserve Bank of India’s (RBI) target of 6 percent. Therefore, some sort of a normalisation looks like it is on the cards.

Timing wise it is difficult to exactly pinpoint, our base case is post the budget. So April is when we are building in the 25 bps cut followed by another 25 bps after that. So we are expecting the repo rate to come down by 50 bps in all in the first half of 2015 and then for rates to remain on hold. Like I said, most of this is driven by the view of the moderation we are seeing in wages. Oil price fall is a positive factor over and above that.

Sumaira: Do you think inflation can come even below the RBI’s January 2016 forecast of 6 percent and so is there a chance you think that the RBI may cut rates more than just 50 bps?

A: We are expecting an undershooting of about 50 bps and it is possible that during the course of 2015, there maybe periods where the undershooting is a bit more than that as well. Couple of things to keep in mind one India is no longer in a slowdown period, growth has bottomed out and our expectation is that while the growth outlook and the cycle may be volatile over the course of the next 12 months, growth will be moving up not down or flat. Secondly, potential growth itself has come down to around 6 percent and therefore output gap is negative but it is not as negative as one would expect and as growth starts to pick up the output gap will narrow.

Thirdly, the RBI beyond the 6 percent and even if there is an undershoot -- what the governor made clear is that the government has broadly agreed to 4 percent plus or minus 2 percent as the medium-term target. So the question is when the growth cycle is turning around, output gap is closing if we want disinflation to continue and for inflation to come down to 4 percent then can monetary policy become very accommodative.

We don’t think that monetary policy can become very accommodative. So that is why clearly the room for interest rates to come down has opened up and interest rates are likely to come down but it is very unlikely that we will see substantial rate cuts in our view.

Reema: You sound positive on growth but can you see any green shoots in fact there is a good chance that planned expenses may also be slashed in Q4 to meet the fiscal deficit though of late we are picking up that the fiscal deficit targets will not be met purely on the back of cutting down expenses but there is always an outside chance. So would that unleash more slowdown?

A: Clearly growth numbers have been very volatile and the next IP growth that we will get for the month of October unfortunately again is a month where working days have been lesser so there will again be a moderation in IP growth this month but I think the broader set of indicators are pointing to the fact that we are already in the early stages of the business cycle recovery. After the disappointing numbers in October on auto, November has seen a bounce back. So the consumer discretionary side is continuing to pick up. I think the transportation sector will do well, one you are seeing that in the medium and heavy commercial vehicle segment, freight numbers are doing well.

Third all the action that the government has taken on project clearances and this entire focus on removing policy uncertainty, this is going to be positive for the investment cycle in the next six-twelve months. So the construction sector at least should do better and as the growth cycle picks up, there will also be a positive impact on the financial sector as we go forward. So I think the turnaround India is seeing right now and we believe that growth has bottomed out is primarily being driven by the services sector as of now. The government will be cutting down its spending in the second half to meet 4.1 percent target. However, at the same time, let us not forget that because of this fiscal consolidation, interest rates have also come down and therefore financial conditions are easing as we speak given the rally we have seen in the sovereign bonds, given the rally we have seen on the corporate bond side, spreads have narrowed and this easier financial condition is also going to support the growth cycle. So our expectation is that yes, a gradual growth recovery but we are expecting growth to pick up to about 5.5 this fiscal year and closer to 6.5 in FY16. So quite positive on growth, also positive on inflation 2015, so we are sort of the view that 2015 is going to be a goldilocks’ period for India because of better growth and lower inflation outlook.