The rupee is Asia’s worst performing currency this year, and it will be further affected by higher global crude oil prices. The central bank may need to act early to maintain macro-economic stability.
A surge in prices of crude oil, India’s biggest import item, and a sharp weakness in the rupee are pushing some economists to change their minds on when the central bank will raise interest rates.
Deutsche Bank AG and DBS Bank Ltd. are among lenders who have brought forward their rate increase calls, more in line with what the markets have been predicting — that the Reserve Bank of India may be forced to raise rates faster than what most analysts are forecasting.
The onshore swap markets are pricing in at least 50 basis points of rate hikes over the next year with one full hike of 25 basis points priced in by August, according to Vivek Rajpal, a Singapore-based rates strategist at Nomura Holdings Inc. The repurchase rate is at 6 percent, currently.
A Bloomberg survey shows the consensus is for the first rate increase in the second quarter of 2019. Only a tiny minority expect rate increases this year and they include Wall Street investment firms Goldman Sachs Group Inc. and Morgan Stanley. Now, Deutsche Bank has joined them.
“Given the sharp and substantive increase in crude oil prices, we now expect the rate hike cycle to be brought forward,” Kaushik Das, the Mumbai-based chief India economist at the German lender wrote in a note last week, calling for a rate increase as early as in June. Credit Agricole CIB had already penciled in an increase in the second quarter.
Das wrote that higher global crude oil prices are a drag for the economy, given it pushes inflation higher, widens the fiscal and current account deficits and exerts downward pressure on the rupee. The central bank may need to act early to maintain macro-economic stability, he said.
“A pre-emptive rate hike in June can help strengthen RBI’s credibility as an inflation targeting central bank, stabilize the rupee and help pace the rate hikes with a comfortable time gap, which will impact growth less adversely,” he said.
Echoing those macro-economic risks, DBS has brought forward its forecast to the third quarter of this year.’
“As a defense against market volatility, particularly a weaker rupee, and sticky core inflation, a measured 25 basis point rate hike is likely in the third quarter of 2018 and another in the first quarter of 2019,” Radhika Rao, an economist at DBS in Singapore, wrote in a note Friday.
The rupee is Asia’s worst performing currency this year on concerns that slowing capital flows and a wider trade deficit could stretch the funding of India’s current account gap. That raises the specter of 2013 when vulnerable external accounts saw the rupee plunge to record lows amid the Federal Reserve’s signal that it would gradually withdraw some of the extraordinary monetary policy accommodation.
Hugo Erken, senior economist at Rabobank International, who sees a rate increase after September, does not rule out an earlier move by the Reserve Bank.
“Would a hike be warranted before? Yes definitely, if oil prices keep rising, the rupee maintains its depreciating trajectory and in case of a faster-than-expected acceleration of the Fed tightening cycle,” he said. —Bloomberg.