Rupee to range between 63-66.55 per dollar for FY18: Suvodeep Rakshit, Kotak Institutional Equities

In a chat with ET NOW, Suvodeep Rakshit, Economist, Kotak Institutional Equities says that CAD FY18 will be seen at $50 billion and balance of payment surplus at $21 billion. Edited excerpts:


The sustained overseas flows are likely to continue and some of the economists that have been polled said that the rupee could be in the range of 58 to 62 by the end of FY18?

Mythili Bhusnurmath: Yes, absolutely the rupee being the best performing. Our current account deficit is at 2.4% just as compared to 0.1% in the comparable quarter of the previous year. It is a bad news for us because if this rupee strengthens the way it is strengthening, our imports will keep increasing, our exports will keep falling and our vulnerability on the external sector will increase manifold because the fact is that almost all our reserves are built essentially out of borrowed funds. Look at the inflows with the country's essentially portfolio inflows and that too in the area of debt not even in the case of equity. A person who invests in equity takes a long-term view at least of the company, whereas that is sheer arbitrage built on carrying trade so this is very dangerous for us. So I would say beauty lies purely in the eyes of the beholders. if you are the exporter then we are the worst performing, if you are the importer you would be very happy. But for the economy it certainly more bad news than good news.

Do you share the same view? Is it a good news or is it the time we should take a note of it?

Suvodeep Rakshit: The current account deficit is at 2.4% which is almost a four-year high. On the other hand, you have a balance of payment surplus of around 11 billion, which shows how much of capital flows dependent we have been in the first quarter and that is not exactly a good news. There is a fair bit of reason why the debt flows have come in and one is because of the real interest rate differential between India and the other developed markets is significantly high right now which is also the case with most other EMs. The other point is that how long do these fundamentals reasons continue because somewhere down the line the interest rates will adjust in the developed markets. The inflation will also increase gradually over the next six to seven months period. And when that real interest rate differential comes down by around 100 bps will India remain as attractive in terms of the carry trade or the real interest rate differential for which the flows have been coming in so that remains a question that we need to see. Hence I am a bit cautious in terms of being very buoyant about the flows that are coming in. Also, it is a good news because it is helping us finance the wide trade balance that we have run over the last one-quarter.

Mythili Bhusnurmath: Certainly because with the RBI’s reserves touching a record 400 billion, there is a limit to how much more RBI can accumulate reserves by intervention and if it cannot intervene and the rupee continues to strengthen like this, yes you say that India is not an outlier because other EMs have also strengthened but the fact is one has to also remember that we are a democracy and a poor democracy. So what China can do, we cannot do. Before disaster strikes us, maybe the authorities should sit up and take some action and the hope is that with the new commerce minister maybe we look at rising rupee in a slightly more nuance fashion.

What could the RBI do? Will RBI cut interest rates?

Suvodeep Rakshit: On one hand you have the exchange rate, the other hand you have a scenario where the inflation has started to rise right now. There are some real reasons why the RBI cannot really go on a rate cut spree. You can argue about 25 bps here and there and there is a divided opinion amongst the market but the point is that there cannot be an interest rate led to action on the exchange rate as such. If you are really looking at the exchange rate kind of as a RBI if they are trying to curb it, looking the debt limit is the only option right now that the RBI has without really been very draconian in their measures. That would be again detrimental. As of now, my sense is that the RBI might just hold off on increasing the limits on the G-Sec and the corporate bond. That will be the safest option as of now. We should not go for any draconian measures because that is detrimental in my opinion.

Tomorrow and day after the US Fed is meeting. Why is it that they are so little excitement about the FOMC meet because even though the FOMC is not likely to suggest an interest rate hike the fact is that they have been talking, quite a few of the members have been talking about a shrinking of the balance sheet size and that might perhaps impacts the market much more than a rate hike which many have factored in. Do you expect to see any announcement from the Fed about their plan or scheme of action for shrinking the size of Fed balance sheet?

Suvodeep Rakshit: The market has totally discounted any kind of action from the FOMC in terms of their rates at least. They are kind of okay with the fact that the balance sheet size will reduce because even then what they expect is a very gradual reduction. As long as there are no surprises, most of the news is factored in. We have seen how the government or the fiscal policy has panned out in the US and the market is kind of little bit sceptical about how fast the fiscal policy can expand and all. From that perspective, they are pretty much kind of factored in that the Fed cannot do much at this moment even if they do something which is on the balance sheet…

Do you think this is the need of the hour that there is a government intervention and how can it stimulate, especially if it wants to look at exports given what is happening with the rupee and the dollar?

Mythili Bhusnurmath: Well yes, one thing which almost everybody has agreed that since the private corporate sector is not doing any investment at all virtually it has to be a public investment so there is no alternative to public spending but the public spending of the right kind. Having said that how will we finance the government spending, it has to be ideally within the same fiscal deficit through more aggressive disinvestment and I find it very hard to understand why the government is not able to come to the disinvestment table more frequently and in a more aggressive fashion because this is the time when the IPO market seems to be booming. So even if unheard of companies are or actually small companies are able to see their issues subscribed many times over why cannot the government come to the market with companies which are brand names, much better companies perhaps in many ways if they did an aggressive disinvestment they could spend without breaching the fiscal deficit. If for whatever reasons very difficult to understand the ways of government, if for whatever reason they are not able to do that then perhaps they will have to think in terms of tweaking the fiscal deficit just a little bit, not by fiscally profligate but just by being a little bit more careful in what they spend and not being so bound by a 3.2 or 3% or whatever percentage because otherwise the economy will perhaps-- the slowdown will aggravate. So that really is the position, ideally stick to the fiscal deficit, if you can do something to stimulate exports particularly as far as exchange rate management is concerned, do something on that score, monetary policy has very limited room unlikely to have much effect given the long lags in monetary policy, fiscal policy is the answer with the right kind of spending ideally with the same fiscal deficit target but if that that is not possible then maybe some marginal tweaking of the fiscal deficit would be a good idea at the moment.

Mythili Bhusnurmath: Would you agree with that assessment?

Suvodeep Rakshit: Yes, I think will agree with that one because I do not think monetary policy is the answer to really push ourselves out of this slowdown that we are experiencing right now. Even on the fiscal policy, I think shifting away from the fiscal deficit consolidation path is risky, not just from how it is perceived by the central bank or the other policy makers but it is also from the rating agencies perspective and along with that the FPI investors. So I think it is important that the fiscal deficit is maintained but at the same time obviously as Mythili was pointing it out look at the divestment part, there are enough number of companies that you can divest, there is enough number of companies where the share of the government’s stake can be brought down, that can give enough revenue for the government, if not to really just use it for revenue expenditure but also use it for capital expenditure. I think that can be one of the key themes that the government can look forward to in terms of spending. It might not essentially be an instant consumption kicker but at the same time, it will obviously, if it is for example, spent on roads it gives a multiplier effect in terms of employment also, in terms of consumption also. So I think the government needs to be a little more proactive in thinking through the divestment path that they are taking and use that extra revenue towards these kinds of capital expenditures. I think that is the way that you should be going. It will take some time but at least the growth that we will get out of it is sustainable, more durable and something that we cannot really complain about.