Friday the 29th

R.B.I has increased the C.R.R by 75 basis points to 5.75%.This came as a huge surprise since most of the analysts dint expect the R.B.I to raise rates beyond 50 basis points.As mentioned in my previous post R.B.I has used C.R.R as a tool to suck liquidity and has left the repo rate unchanged.

Lets now analyze the impact of rate hikes on the economy.

1)Food Prices:-

The rate hikes should not bring about significant change to food prices since the rise in food prices has mainly been triggered due to supply side concerns.Only the agriculture minister can arrest the rising prises of these commodities,but irresponsible comments from the agri minister will only make the problem worse.

2)Banks:-

Due to the rise in liquidity the deposits have increased significantly,but the decrease in net interest margins of most of the banks in this quarters results signifies that they have found it difficult to increase lending due to decrease in demand.Hence the banks may not raise rates in the short term,but in the long run the increasing government borrowings due to high deficits may push the rates higher(The crowding out effect).

3)Real Estate:-

Price rise in real estate has been a cause of concern for some time now,but the central bank will find it difficult to arrest the prise rise in this sector as long as the banks start raising rates.

To conclude I would only say that nothing significant is going to happen until the banks start to raise rates.

THE HANGOVER

The stock markets indices in the past 12 months has doubled.The money invested in any of the blue chip companies have given a return of anywhere between 50 to 200 percent returns in the past 2 years.

So is it safe to say that the bullish phase is back??

To be honest, I have my doubts on this.In the last year it has to be noted that enormous amount of money was pumped into the system by the government through stimulus packages.The effects of the stimulus packages are very much visible through the growth in the I.I.P numbers,besides billions of dollars have been pumped into the global economy.It would be safe to assume some amount of this money must have found its way into emerging markets including India.It is this excess liquidity which has been driving the growth in the Indian economy.I would say that the growth in the economy is just a hangover of the excess liquidity pumped in the system.

The economy cannot be in this state for a long period of time.Let's say that the govt. discontinues the stimulus packages (seems probable due to the high fiscal deficit.),this would lead to a decrease in the govt. spending which has been one of the vital contributor to the growth in G.D.P.Therefore corporate earnings,capital inflows and exports will have to fill in for the vacuum created by the decrease in govt spendings.Let's now evaluate the possibility of this happening.

1)Capital inflows

Long back I remember Warren Buffet saying in an interview that inflation is going to be the next big threat to the global economy.Looking at the weekly W.P.I numbers his concerns seem genuine.So it is safe to assume that the surplus liquidity will move to safer destinations such as T-Bills,G-Secs.Therefore probability of this component accelerating the G.D.P is very less.

2)Exports

There has been a year-on year increase in oil prices.Therefore increase in oil price should more or less offset the increase in exports.It would be safe to assume that the increase in exports would not be significant enough to offset the decrease in govt spending.

3)Corporate earnings

I had great expectations from this quarters earnings.The I.T cos. managed to come up with stellar set of numbers.RIL too managed to come up with decent set of numbers.Results of L&T and ICICI were disappointing.With the rate hikes around the corner it would be unfair to expect much from the interest rate sensitives.It is clearly evident that the corporate earnings is a mixed bag and it would be foolish to expect the corporate earnings to fill in for the vacuum created by the decrease in govt. spending.

All I would say is that,enjoy this phase (the hangover phase),dont be surprised if there is a dip before we climb the ladder.I would be happy if my analysis turns out to be correct,but I would be happier if my analysis turns out to be wrong.....since it would increase my chances of getting a job after my studies...........CHEERS:-)

THE GREAT INDIAN RATE TRICK

The food inflation is close to 20%,the W.P.I is close to 7%.I think it is time the R.B.I starts to raise the interest rates.It would be safe to assume that any student of Economics would not disagree with this view.

The inflation concerns have forced the central banks of China and Australia to raise rates.These measures will help these countries to be well equipped to fight inflation and suck the excess liquidity from the system.

I remember,a lot of credit was given to R.B.I by many investment bankers post the Lehman crisis.The pro active measures taken by R.B.I during that period helped to insulate the economy from the crisis to some extent,but surprisingly and unfortunately it was the socialistic policies of Indira Gandhi which received more credit from the media and the members of the U.P.A government.

So, the question that arises in our minds is why is the Central Bank dragging its feet when it comes to raising the interest rates?i.e. what has changed in the past 2 years??

Ans:-Nothing much,except for the governor,Reddy was replaced by Subbarao.It is a well known fact that Subbarao is very close to the politicians in Delhi.I think this is the only reason that justifies the silence of the governor.His predecessors both Reddy and Bimal Jalan were definitely amongst the best governors we ever had,but one of the main reasons for their success is the freedom with which they used to operate.They were appointed as governors when the NDA govt. was in power.Therefore some amount of credit must be given to the NDA govt. for letting them function without much political pressure.It is a well known fact that CBI and EC are being run by the stooges of the Congress party,now it seems that RBI is a new entrant to the list.

Well now the question you may ask is why would the govt. not want the RBI to raise rates?

Ans:-The govt. is in need of money.The govt. is forced to borrow from the market because of the failure of the 3G auction.Issues of NTPC(11000cr.1st week of feb.) REC (1500cr.third week of feb.)NMDC(14000cr.2nd week of march) are expected to hit the market.Success of these issues solely lies in the hands of the RBI.It is therefore safe to assume that RBI will be dragging its feet till the last week of March.I do not suggest that there wont be any rate hikes till April,but it would be safe to assume that the rate hikes would be at a slower pace,till the govt. manages to achieve its goals.

hmmm....so who are the losers??

Its us.Inflation is going to be a problem till the government manages to raise funds. Of course Pawar is going to be richer and suicides in Vidharba are going to continue........Jai Hind