Sluggish growth calls for sentiment-boosting measures: Pradeep Madhav

Interview with MD, STCI Primary Dealer

With at least one rate cut expected by the year-end, gilt yields are heading below current levels, says Pradeep Madhav, managing director, STCI Primary Dealer. To a large extent, he adds, the current as well as expected rallies in gilts could be attributed to a demand-supply mismatch of statutory liquidity ratio (SLR) securities. In an interview with Neelasri Barman, he talks about liquidity, fiscal deficit and inflation. Edited excerpts:

Last week, banks’ borrowings under the daily liquidity adjustment facility (LAF) crossed the Rs 1-lakh-crore mark. What is the outlook on liquidity?
Considering the government’s cash balance with the Reserve Bank of India (RBI), the current systemic liquidity deficit should have been Rs 60,000-70,000 crore. However, because RBI’s forex forward contracts have expired, the deficit has been exacerbated, and LAF figures under RBI’s repo window have crossed Rs 1 lakh crore. Historically, October and November have witnessed a rise in currency in circulation of Rs 30,000-40,000 crore, primarily owing to the festive season. Hence, without any RBI action, the deficit is expected to widen. We expect RBI to alleviate the situation and bring the deficit back into the comfort zone — either by conducting open market operations (OMOs) purchase auction of gilts or by cutting the cash reserve ratio (CRR).

 

What are your expectations from RBI’s monetary policy review on October 30? What is your outlook on rate cuts till March 31?
The current sluggish growth scenario in India definitely calls for some sentiment-boosting measures. Recently, the government undertook some steps to bridge the fiscal deficit and support the depreciating rupee. RBI’s hands are, however, still tied, owing to the persistent high inflation. I would expect RBI to stay put on interest rates, but cut CRR to infuse liquidity into the system to boost sentiment and lower the cost of credit to the commercial sector. One can expect RBI to cut rates by 25-50 basis points in the fourth quarter of FY13, provided the government undertakes further measures to ensure fiscal discipline and administrative steps to alleviate supply-side constraints to boost the economy and investor confidence.

What kind of slippages do you expect from the fiscal deficit target of 5.1 per cent of gross domestic product (GDP) for FY13?
The estimate for slippage in the fiscal deficit would be a bit more pessimistic than the one provided by officials. We expect the fiscal deficit to stand at about 5.5 per cent, considering the subsidies on oil, food and fertilisers. However, recent moves by the government to fast-track the spectrum auction process and the public sector undertakings disinvestment line-up through the exchange-traded fund route are encouraging and provide some room for fiscal consolidation. Even if these moves materialise, I expect additional borrowings for FY13 at Rs 40,000-60,000 crore.

Inflation is again becoming a challenge for RBI. Do you agree with Goldman Sachs’ recent report, saying India needs a formal inflation target?
Inflation in India is becoming more of a structural issue, driven largely by supply-side constraints rather than demand-side pressures. The long-term solution to taming inflation lies in building capacities, not curbing demand in the short term. This is because being a developing economy with a population of more than a billion, demand for goods and services would obviously keep rising with the rise in income and consumer aspiration levels. Hence, setting a formal inflation target carries an inherent risk of unduly hurting growth. In fact, with the world economy still in a recession, huge downside risks to growth still exist due to the uncertainties in the Euro zone and the US. To combat the slowdown in growth, central banks across the globe have resorted to unprecedented measures and we think RBI, too, has to be prepared to take such measures, if growth slows any further.

What is your outlook on gilt yields by March 31?
With at least one rate cut expected by year-end, gilt yields are definitely headed below current levels. Whether yields drop to 7.80-90 per cent levels or lower would depend largely on the quantum of rate cuts or OMOs, if any. To a large extent, the current as well as expected rallies in gilts can be attributed to a demand-supply mismatch of SLR securities.