India doesn't need a weaker rupee to boost exports: CLSA

India does not need a devaluation of rupee for now, says Rajeev Malik, senior economist at CLSA. At this point currency devaluation could be a costly affair. It may spook investors and may impact capital flows.The government is considering a proposal for a weaker rupee in an attempt to make it more competitive. According to a Reserve Bank of India report, rupee has been over-valued by 10-12 percent.This may be an attempt to make Indian goods more attractive to foreigners as they would become cheaper. This will boost export compeitiveness.Instead, focus should be on productivity gains and enhancing structural competitveness, says Malik. This will increase export volumes and will help exchange rates."If Make in India and ease of doing business initiatives of the government are doing as good as they are reported to be, they should have already led to a boost in exports," says Malik.India still suffers from a high inflation rate, he says. There is a structural chance of the rupee weakening due to high inflation. India can keep a check on relative inflation to maintain a stable and favourable rupee, he adds."If you fix inflation, you will see a structural decline in interest rates," says Malik. RBI is sure to cut rates at least once before the end of year, he says. Inflation may come down further, but RBI is going to focus on a sustained inflation profile, he adds.He says the 5 percent inflation target set for March 2017 is achievable but the five year inflation target set at 4 percent is very ambitious. The onus of achieving the target lies with the government and not the RBI.Inflation in india is very volatile. Its volitility comes from changing food prices.Monsoon rains are going to end deficient compared to average. But Malik is still confident saying the overall monsoon profile is much better. He does not think growth forecast needs to be lowered due to small rain deficit.Below is the transcript of Rajeev Malik’s interview to Reema Tendulkar and Prashant Nair on CNBC-TV18. Prashant: I would like your thoughts first on the report that we put out yesterday that the government is essentially considering a proposal for a weaker rupee, essentially a devaluation as far as the rupee is concerned. It is just a proposal, nothing firm, but at least they are formally starting discussions around this. What are your thoughts on this? A: Intriguing to say the least. It is important to bear in mind whether this was just a communication gaffe, what they are really talking about are any kind of strategies or policies to facilitate a more competitive exchange rate versus an outright devaluation. Devaluation has a certain ominous sound to it, to an economist and it is intriguing simply because I do not think India necessarily needs it at this point. More importantly, given the rather global slump that we have, as far as trade dynamics are concerned, it is unclear how much of a devaluation is really going to help. In fact, it could be costly in terms of how it spooks investors and has an impact on capital flows. So, I would make a distinction, the government of course, officials have denied it, there is a distinction between getting together and discussing how to facilitate a more competitive exchange rate versus talking about an outright devaluation. I should point out that this typical reliance on a weaker exchange rate to boost export competitiveness is really a non-starter for all practical purposes. Ultimately, what matters and India has immense scope to deliver on this is really about productivity gains and enhancing structural competitiveness. I find it somewhat puzzling that if indeed, Make in India and ease of doing business were being as successful as they are generally reported to be, there should already be an inbuilt boost as far as the broader competitiveness for exporters are concerned. So, it is difficult to marry the two potential scenarios which obviously come from different parts of the government. Prashant: So, let me get this clear. You are saying that you understand the government’s liking for a more competitive exchange rate, but essentially you and others have a problem with the word devaluation. It does not quite fit right with how the rupee has managed here? A: You see, devaluation refers to a one-time large outsized policy driven move. That is not necessarily needed. You can still have a market driven exchange rate that gravitates more towards gradual weakness. Rupee has actually been weakening for the last couple of years. Year-to-date it might be pretty much unchanged now, but it is still a relative underperformer compared to other emerging currencies against the US dollar. The important point in all of this is how much a conscious targeting of the weaker exchange rate is going to help exports and the point I am trying to emphasise is that would be a short-sighted strategy. The greater, long-lasting focus should be on enhancing productivity gains which automatically, will feed through into export volumes and will help the exchange rate as well. Exchange rate should be thought of as a stabiliser, as a shock absorber, rather than becoming a focal point, a target as far as policy is concerned. Reema: At current reckoning, is the rupee overvalued and if yes, by how much? A: If you go by the officially released real effective exchange rates that the RBI puts out. It is roughly around 10-12 percent over valued although in the last year or so, the magnitude of that overvaluation has not really changed. Now, do bear in mind. Rather than just running off with that number, given the fact that globally, all export oriented cyclical economies are worse off, automatically, their currencies are going to be much weaker than India. So, there is a built in profile because of the slump in global demand that actually makes rupee a bit more favourable, not to mention, it is a high yielding currency. So, all of those come into play as well. As and when the global economy recovers, automatically you will see a rebalancing and exchange rate is a relative price. As and when that happens, export oriented currencies would actually do better and that overvaluation will automatically begin to come down. The area where India can actually do a fair amount in checking that overvaluation is really on relative inflation. While we land up thumping our chests about how much inflation has fallen, what people ignore is India still has among the highest inflation rates. So from a relative inflation perspective, that would still point that there is a structural built in bias for the rupee to actually weaken. Prashant: We live in extraordinary times, mostly in monetary policy. Now, the focus is slowly now shifting to fiscal policy and that talk started after last Thursday’s European Central Bank (ECB) meeting. Is this is a start of focus away from monetary to the fiscal? I am not saying everybody is doing it, so we should also get into the game. But the point is these are extraordinary times, so I am just asking you to consider these proposals in that context, what your trading partners are doing and what you have to do protect or even increase your competitiveness. A: That is a fair point, but do not forget, when we talk about the extraordinary measures some of the developed countries are undertaking, do also put it in context of the extraordinary circumstances they find themselves in post crisis. India is not really in that situation. For an economy where there is a lot that can be done from a structural front to try and boost trend growth rate, that is really where the focus should be. All these little things about currency weakness or extra fiscal push only softens the pressure points for a stronger push on structural front. And the margin actually may not make a big difference. So, for India to justify a slower pace of fiscal consolidation because some developed countries that are in near-recession conditions are doing it, is not really all that valid for a country that is actually, reportedly at least, in official terms growing at 7-7.5Reema: Just recently we got the inflation as well as the IIP data and that has just strengthened the case for a rate cut by the new governor come October 4. What is your view, will he won't he? If not in October when do you think the next rate cut will come from the RBI and thereafter the trajectory?A: The inflation print is more important than the IP print. I think the large reversal in inflation pretty much sets the stage for a rate cut either in October, if not in October then certainly in December. It is going to be governor Urjit Patel's first policy meeting as the governor in October. There might be a bit of a cautious approach wanting another reading just to confirm that trends are improving  but there is enough on the table for him to chew on and actually go ahead with the rate cut in October. I do think if that doesn't happen then December is a much more likely option. However in any case before year end we will get a rate cut. I do think that would be the last one. While inflation has come off and will come off further, do bear in mind that the central bank is going to be focusing much more on whatever is the sustained inflation profile. India has lot of volatility upside and downside because of food related prices. Don't forget that even though the 5 percent target for early 2017 is very much achievable, the 4 percent target which is now legally binding is actually pretty ambitious and that increasingly is going to begin to impact the policy response.One joker in the pack is going to be the composition of the MPC since that will increasingly be deciding on rates and essentially we only know part of the composition. Ultimately the three nominees by the government will pretty much set the stage whether that MPC is actually a hard hitting reform much welcome or just a paper tiger.Prashant: Is there any reason to expect that the government would want it to be a paper tiger? You wrote in your note after Dr Urjit Patel was appointed as  the governor that the government should be credited for the appointment because it shows that the government understands the focus on inflation that was there under governor Raghuram Rajan. So, any reason to expect that the government would not want MPC to have teeth essentially?A: It is in the governments own interest  to have a credible MPC rather than be swayed by certain short term myopia about having and MPC which has a much more dovish tone and therefore can facilitate  a few rate cuts. Ultimately everyone is one the same side of ensuring that inflation remains low and stable and it is very much work in progress as far as India is concerned. Which way it goes, we don't know that is precisely why it should be announced sooner rather than later. However one potential thought process could easily be that there is a hawkish governor, the MPC composition could be a bit on the dovish side just to balance it out, I don't know, there are different permutations combinations that potentially could be explored. However it is very important for policy makers to appreciate that a credible MPC is actually what is needed for everyone on the same side.Reema: We started off the monsoon expecting a good monsoon but it is turning out to be a deficient one. Will it hamper the growth rates, would you cut down your growth estimates for India because of the deficient monsoon?A: I think the aggregate numbers may not be as perky as going into the season people might have initially wished for and for all the supply constraints India has wishes are always in excess supply.However I think overall profile has still been pretty decent. It is certainly better than what we have had in the last couple of years. So, I don't think growth forecast necessarily are going to be shaved because of that. You could still see over the next year or so as the GDP deflator sings a different tone, real growth being adjusted lower but that is a separate story altogether.Prashant: You said one cut this year in October or either December and then a very long pause, that is what you said right?A: Yes. Ultimately we have to appreciate that part of the inflation targeting framework even though it is flexible inflation targeting, that 4 percent target is actually pretty ambitious. When you put in context any kind of potential recovery in a largely supply constrained economy and to the extent that later on corporate pricing power also begins to emerge of course much later in cycle, it will be extremely difficult to deliver on that 4 percent target. Ultimately the success of achieving that target is not with the RBI, it is actually with the government and its supply side reform initiatives. What RBI has to ensure with its interest rate policy is to make sure that the demand side and the supply side are in sync. People often get swayed with all kinds of arguments about interest rates in India but that is what RBI is effectively trying to do.Reema: Global bond yields have been rising in fact they have risen to the highest levels since the Brexit day. What your global counterparts talking with respect to will we see more QE from the likes of Japan as well as from ECB as well as from the Fed?A: It interesting if you put that observation that you just made about higher bond yields in the context that US numbers at least have been weaker, so you have a combination where Fed funds futures pricing of rate increase in September has actually gone down, but long rates in the US have actually crept up at least more recently even yesterday, the weak retail sales print just had a very marginal impact which was quite surprising as far as yields were concerned.I think ultimately there is a certain volatility which nobody really seems to have a good handle on. It can be somewhat worrying because it just being driven by a variety of different factors, but yes that is something clearly to look out for and be on the watch.Prashant: From a top down perspective what is your view are we going to see QE infinity, I am not talking about the Fed but generally from big central banks around the world. People keep second guessing - it has not worked, why would they do more, but there is other option in a way. The wiggle room is very little?A: There are two options - when you think about Japan for example I think fiscal response probably is going to make a bigger difference than another monetary response. With ECB and the Fed the function is going to be very much in terms of how the existing measures are necessarily playing out. Mario Draghi tried to douse  expectations about any extension as far as QE is concerned, I would actually be very surprised if he doesn't. US obviously in a very different stage as far as its own cycle is concerned. Here the question has really been about pushing out Fed rate expectations and given the tone of numbers that is a reasonable response.There is this perception that somehow central banks know exactly how things are going to pan out over the next couple of years. They don't, which is precisely why they are so data focused. Data itself has been quite volatile.Prashant: I think the all pervasive view is that everyone now recognises that central banks have no idea on how things are going to pan out a few years down the line but we are on this road  that we don't have exits on basically.A: That is somewhat harsh,  we are very much in no man's land. We are in a situation where none of the policy makers have experienced this before. So, the question is do you not do anything, do you try out something even if you are unsure about the consequences eventually, so different things will be tried out. Is it one bolt experiment that can horribly go wrong? Sure. But the cost has to be seen in terms of not doing anything especially if the political setting is not being as constructive as perhaps it should be. There is only so much monetary policy or monetary measures can actually do. While we are talking about developed countries, I would bring it back to India with the kind of obsession about pushing rates lower. Well it can't happen in isolation. Fix inflation and you will see a structural decline in interest rates.