Q&A: Pradeep Madhav, MD, STCI Primary Dealership
'Inflation may not come within RBI's comfort zone'
The market is expecting a 25-bps rise in key policy rates in the mid-quarter review of monetary policy to be announced by the Reserve Bank of India today. Pradeep Madhav, managing director, STCI Primary Dealership, tells Parnika Sokhi that further tightening could take place, as rising crude prices may exert pressure on inflation. Edited excerpts:
What are your expectations from the RBI mid-quarterly policy review and going forward?
We expect a 25-basis points hike in repo rate as well as the reverse repo rate. Going forward, it all depends on how inflation pans out and how fast the global recovery happens. As things stand today, with crude prices having shot up so suddenly, inflation pressures could necessitate a 25-bps hike in repo and reverse repo, and cumulative tightening of rates by a maximum of 100 basis points in 2011-12.
The inflation in February which was 8.31 per cent was above the market expectation. Where do you see it in March?
The inflation numbers have become increasingly difficult to forecast, with the sudden rise in crude prices because of geo-political concerns and global shortages in food production accentuating domestic supply problems. With the deregulation of diesel prices, inflation is not likely to be near the five per cent figure that seems to be the RBI’s comfort zone. We expect inflation to be 7.5-8 per cent in March. In 2011-12, we could see it in the range of six to eight per cent.
What is your reading of liquidity?
Liquidity conditions are not very tight, as we are yet to see the entire advance tax figures flow out of the system, but I think there is some arbitrage happening. A lot of money from the banking system is going to mutual funds. Banks seem to be borrowing from RBI’s repo window and parking it in MFs. A lot of that will unwind when advance tax payments need to be made, that is expected to be Rs 80,000-90,000 crore. I estimate bank investments in MFs at about Rs 1 lakh crore. There will be a temporary spike for the fact that advance tax does go out of the system temporarily but I think liquidity should even out before March 31.
Government borrowing for FY12 has been pegged at Rs 3.43 lakh crore. What will be the impact on yields if the actual borrowing exceeds this target?
The gross borrowing target of Rs 4.17 lakh crore took us a little by surprise and is an encouraging figure. The net borrowing at Rs 3.43 lakh crore is definitely a little higher than this year due to lower redemptions. If the government sticks to its borrowing programme, we should be able to see it go through without too much strain on interest rates. However, other factors like global issues and liquidity conditions also need to be considered and these factors are very difficult to predict as of now.
Assuming that 60-65 per cent of the borrowing is front-ended in the first two quarters as in this year, I would expect a weekly auction of anywhere between Rs 11,000-12,000 crore in the 23 weeks in the first half of FY12. If compared to this year, when we had three weeks of Rs 15,000-crore auctions, next year the Rs 11,000-12,000 crore auction each week should go through without too much volatility.
Hence, the borrowing program seems to be manageable in the first half of FY12. The second half is difficult to predict and if we see any additional borrowing being announced, we may see yields spiking. So, the third and fourth quarters are likely to be little more challenging, as compared to the first and second quarters.
The government raised the foreign investment limit in corporate bonds. How will that help in developing the corporate bond market and what do you think is the need of the hour?
It will definitely help but at the moment our existing limits have not been fully utilised. A lot will depend on the definition of the infrastructure sector covered under enhanced limits and which issuers hit the market. However, I am sure that in time, these limits will be fully utilised.
Apart from that, the government’s borrowing is crowding out some of the bond borrowing of the market. When interest rates go up very fast, issuers tend to shy away from the market. If we reach a band where interest rates become more or less stable, then we could see a rise in the issuances. Other issues like withholding tax that FIIs seem to be very particular about and stamp duties and certain operational issues also need to be addressed.