RBI Policy is Tighter than Commonly Believed
BIA Capital Advisors P. Ltd.
The central bank effectively controls 2 variables in its general mandate to optimize growth versus inflation. These are as follows :
1. The Price of Money: This is generally represented by the overnight cost of money which in turn is determined by the operative rate of the RBI (repo or reverse repo). This is the most frequently tracked indicator of RBI policy. Currently, and over the last few years, the repo rate has been the operative rate. As is well known, the RBI has been extremely aggressive in raising the repo rate taking it within 50 bps of the last cycle peak of 9%.
2. The Quantity of Money: This is the other variable that is largely influenced by the RBI. By using variables like CRR, forex intervention, MSS and OMOs the RBI influences the quantity of money. The broadest representative of this is broad money or M3 growth. By keeping money restrictive or loose, the RBI also affects aggregate demand in the economy and, ultimately, inflation.
The chart above tracks each of these 2 variables since the last cycle of 2008. Repo rate is represented by orange line (values on RHS) while M3 growth is represented by white line (LHS). It can be seen that even when repo rate was at 9% at the peak of the last cycle, M3 was still growing in excess of 20%. Whereas currently repo rate is close to the last peak while M3 growth is at its lowest since the last cycle. Thus taken together, it can be argued that RBI policy is actually more restrictive than it was at the peak of the earlier cycle.
The above scenario presents a large opportunity for fixed income investors since current rates reflect almost an extra-ordinary tight monetary policy. While quantum and timing may be debated, it is clear that given that growth and inflation are both visibly falling, the RBI will have to start loosening this policy soon.
Thus investors may do well to look through the current period of stress that markets are facing and focus on the larger investment theme, which is very conducive for rates to fall. As long as funds are bought with suitable time horizon (depending upon fund profile and risk tolerance of investors), fixed income returns should be quite attractive in the year ahead.
Secondly as the Monetary Policy will ease, growth cycle will turn in favor of equity investors also. The Members can buy Rate sensitive plays for a long term horizon and stories which are supported by consumption growth.
Thanks & Regards
Mansi Bhambhani
Director
BIA Capital Advisors
904, Satkar, Nr. Lal Bungalow
C.G. Road, Ahmedabad
079- 26406133, 40328998 (5 lines)
(ma...@economysavvy.com)BIA Capital Advisors P. Ltd.
The central bank effectively controls 2 variables in its general mandate to optimize growth versus inflation. These are as follows :
1. The Price of Money: This is generally represented by the overnight cost of money which in turn is determined by the operative rate of the RBI (repo or reverse repo). This is the most frequently tracked indicator of RBI policy. Currently, and over the last few years, the repo rate has been the operative rate. As is well known, the RBI has been extremely aggressive in raising the repo rate taking it within 50 bps of the last cycle peak of 9%.
2. The Quantity of Money: This is the other variable that is largely influenced by the RBI. By using variables like CRR, forex intervention, MSS and OMOs the RBI influences the quantity of money. The broadest representative of this is broad money or M3 growth. By keeping money restrictive or loose, the RBI also affects aggregate demand in the economy and, ultimately, inflation.
The chart attached tracks each of these 2 variables since the last cycle of 2008. Repo rate is represented by orange line (values on RHS) while M3 growth is represented by white line (LHS). It can be seen that even when repo rate was at 9% at the peak of the last cycle, M3 was still growing in excess of 20%. Whereas currently repo rate is close to the last peak while M3 growth is at its lowest since the last cycle. Thus taken together, it can be argued that RBI policy is actually more restrictive than it was at the peak of the earlier cycle.
The above scenario presents a large opportunity for fixed income investors since current rates reflect almost an extra-ordinary tight monetary policy. While quantum and timing may be debated, it is clear that given that growth and inflation are both visibly falling, the RBI will have to start loosening this policy soon.
Thus investors may do well to look through the current period of stress that markets are facing and focus on the larger investment theme, which is very conducive for rates to fall. As long as funds are bought with suitable time horizon (depending upon fund profile and risk tolerance of investors), fixed income returns should be quite attractive in the year ahead.
Secondly as the Monetary Policy will ease, growth cycle will turn in favor of equity investors also. The Members can buy Rate sensitive plays for a long term horizon and stories which are supported by consumption growth.
Thanks & Regards
Mansi Bhambhani
