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Fixed capital investment will expand by 16% this fiscal |
Bangalore, April 18 Mr Robert Prior-Wandesforde is Senior Asian Economist for HSBC, based out of Singapore, specifically responsible for coverage of the Indian, Malaysian and Singapore economies for the Group. Prior to this, he was based in London for 12 years covering various Continental European economies and became HSBC's chief Eurozone economist at the inception of the single currency in 1999. In an e-mail interview , Mr Wandesforde spoke on the prospects for the Indian economy.
You have maintained in your India Economic Watch (March 19) that fixed investment in India was likely to surge, though this does not show up in the credit offtake or in cross-border flows FDI/ECB? How does this situation reconcile with your forecast?
Growth in fixed capital investment has already picked up from a low of 0.9 per cent in the October-December quarter of 2008 to 8.9 per cent in the corresponding quarter of 2009 (the latest data available) and I am looking for further strength ahead. In my view, investment will expand by around 16 per cent in 2010-11 as a whole relative to the previous fiscal year, similar to the increases witnessed in each of the four years from 2004 to 2007, and up from the 4 per cent rise in 2008-09. This will reflect increases in both private and public capex as well as involve a range of industries from construction to cars.
Historically, credit growth has proved to be a lagging indicator of fixed investment, often turning some months after the turn in capital spending as companies typically meet their initial investment requirements via retained cash. Recently, we have seen a pick up in credit off-take and this is likely to continue. Indeed I wouldn't be surprised if the year-on-year growth in bank lending was to touch around 30 per cent later this year — roughly double the current growth rate.
As confidence returns to the global investment community I also expect to see a pick up in foreign direct investment into India which, in any case, remained surprisingly resilient during the developed world's “Great Recession” of 2008-09.
Given the currentdouble-digit inflation in the country, especially food price inflation at 17.7 per cent, do you believe monetary policy interventions are sufficient? What about the GDP impact of these interventions?
In my view, the Reserve Bank of India has plenty of catching up to do if it is to anchor wage and price expectations. Although there's not much the central bank can do about a drought-related surge in food prices, the problem runs much deeper than that.
While it is tempting to believe that the country is at the early stages of recovery with plenty of spare capacity to grow into, I suspect it is much further advanced in the cycle than that. More than 97 per cent of companies, for example, were running “at or above an optimal level of capacity” in January 2010 according to a survey from the National Council of Applied Economic Research, while skilled labour shortages are rising, wage growth is strengthening and imports are picking up strongly.
Underlying inflationary pressures are building and will continue to do so as demand expands strongly. I am looking for a total of 200 bps of repo and reverse repo rate hikes, to be completed by around the middle of 2011. This will weaken GDP growth, although given the time it takes for monetary policy to impact the real economy the hit is more likely to be felt in 2011/12 than the current fiscal.
We are seeing a softening of yields despite a record Government borrowing estimate of Rs 4.57 lakh crore this year, exit from quantitative expansion and high inflation. This is a peculiar trend. Any specific attributes?
The market was actually anticipating a larger borrowing programme, leading to some relief. The associated fall in bond yields is, however, likely to prove temporary and I expect the 10-year yield to rise to at least 8.5 per cent in coming months.
Two factors are important here. First, the likely further increase in the RBI's key policy interest rates. We always see a sell-off in bond markets at the early stages of monetary policy tightening, although the 10-year rate will increase less than short rates, leading to a flattening of the curve. Second, the likely strength of credit growth will probably crowd out the willingness of commercial banks to buy bonds.
You may have also observed that the central bank intervention in the foreign exchange markets has remained constrained, despite a 10 per cent appreciation in the Re-dollar exchange rates. Do you believe the restraint is on account of the money supply impact in a high inflation environment?
Yes, this may be playing a small part as the RBI is not always completely effective in mopping up the increase in liquidity brought about by intervention in the foreign exchange market. More important, however, is the fact that the central bank is reasonably happy to see a stronger exchange rate at a time when inflation is high and exports are on the mend.
We should also bear in mind that the strength of the rupee follows a period of weakness in late-2008, while most other Asian currencies have been rising as well. It is easy to forget that in early-2008, the rupee was trading below 40 against the dollar.
When do you think that the dollar status as a carry currency for portfolio investments into emerging markets of Asia likely to end?
Not for some time in my view. In fact, such carry trades could intensify in the coming months as the gap between US and Asian interest rates increases further during the rest of 2010. My colleagues are not expecting the US Federal Reserve to tighten monetary policy in any meaningful fashion until well into 2011, while, as I have argued, India will see reasonable significant interest rates rises from here. Most other Asian central banks will also be hiking interest rates later this year on the back of a strong, sustained economic recovery and the associated threat of higher inflation to come.
Will the yuan revaluation, anticipated later this year, affect the Indian economy? Will it result in long-term capital flows to other emerging markets?
The likely revaluation of the Chinese currency in the April-June quarter of this year might make it easier for Indian companies to export to its neighbour, although the impact will be small. After all, I doubt the initial adjustment to the yuan will be all that significant, while it will also put upward pressure on other Asian currencies including the rupee.
Long-term capital flows are unlikely to be influenced by a small currency move that is widely anticipated. There may, however, be bigger short term flows into China, however, as investors bet on further yuan gains ahead.
Source : Business Line
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