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Journalism of Courage
There is now increasing apprehension that,for the 12th time in succession (since February 2010),RBI will resort to monetary tightening in September. For the statistically minded,there is
also a contrarian view within RBI against rate hikes (RBI minutes of monetary policy meeting). Before attempting a rationale of such an action,we must state in the interests of full disclosure that we are linked inextricably with an apex business organisation. But we would like you to read on to know and judge the policy action based on plain speak.
Plain speak 1: Since July 2011,when RBI increased the rates,the news from the global economy confirmed the worst fears of an impending recession. In particular,for the US economy,apart from the rating downgrade,there were data revisions galore and it now seems that the US GDP growth rate in the first two quarters of 2011 was below the levels at the end of 2007. Interestingly,our historical trend analysis suggests that during the last 60 years,whenever the US annualised GDP growth has dipped below 2%,there has been a recession. With US real GDP expanding by an anaemic 1% QoQ (annualised) during 2011:Q2 (not to speak of the forecast of 1.7% for the calendar 2011),your guess for the rest of the year is as good as mine.
Plain speak 2: All US economic/business confidence indices indicate a sharp decline. The Philly Fed Economic Index declined from 3.2 in July to -30.7 in August. The Empire Index (New York) declined from -3.8 to -7.7 during the same
period. The Mauldin Economic Output Index is now below 30,where 30 is the threshold level for a recession warning.
Plain speak 3: Europe continues to be in the quagmire of a debt overhang,juxtaposed with country-specific problems like the weakening banking systems in Spain and Ireland and the reluctance to increase the lending capacity of the European Financial Stability Facility (EFSF) etc.
Plain speak 4: The Middle East and China continue to be in the news for different reasons. The Middle East is plagued by economic turmoil,resulting in governments resorting to extravagant fiscal doses to quell unrest. Additionally,the region is currently experiencing an asset bubble in the housing market. On the surface,Islamic banks are secured because of large scale government intervention,but there are real dangers lurking beneath the surface. Chinas purchasing managers index (PMI),a major indicator of economic activity,declined to a two-year-five-month low in July,indicating a slowdown.
Plain speak 5: There are unmistakable signs of a gradual decline in commodity prices (excluding metals like gold and silver),recently. The Reuters-Jefferies CRB commodities index has declined from a peak of 370 in mid-April to 338 as on September 2011 and is still declining. The Economist Commodity Price Index has declined by 4.5% in the last month (with the August 9,2011 index at 202.5). WTI crude prices have also declined close to $16/barrel over the last quarter ending on September 5,2011 (source: http://www.oil-price.net).
The bottom lines of plain speak 1-5 indicate that the global economy is clearly in (impending) recession and commodity prices are steadily declining from their peak levels. Clearly,there is enough justification for RBI to pause the rate hike cycle,assuming the apex bank is not waiting for a double-dip recession to happen. Interestingly,RBI may take cues from examples where central banks have increased rates,but only to retract them later in the face of an uncertain global environment. For example,the European Central Bank,which was earlier resorting to rate hikes in 2011 (raising rates by 1% at the beginning of April to 1.5% in July),on August 4 decided to maintain the status quo. It is another point that the rate increase by ECB was perhaps unjustified,as countries in Europe are now undertaking fierce fiscal austerity programmes and it may have adversely impacted the mortgage rates in bailed out countries. The ECB action looks even more untenable,given that the German and French economies showed almost zero growth during Q2 of 2011.
Back home in India,a quick forecasting of domestic demand and external demand (through multiplicative H&W and double exponential smoothening) suggests a slowdown ahead. We believe that RBI is clearly contemplating that first,inflation rates will start declining by default from the beginning of 2012 because of a higher base effect (global commodity prices were at a peak during January-April) and second,it will start resorting to open market operations in the last quarter of the current fiscal to manage liquidity (in the event of liquidity mismatch). However,the persistent RBI rate hikes,apart from depressing investor sentiments (FICCI Business Confidence Survey results show corporate confidence at a two-year low) has resulted in a near flat yield curve (a flat/inverted yield curve portends a slowdown ahead). Let us emphasise RBIs own admission (RBI Round 24 Inflation Expectation Survey) that only 7% of households in India believe that the apex bank’s rate hikes have had an impact on inflation! Add to this that central banks around the world are clearly pausing rate hikes (Australia,Brazil,Turkey etc). Perhaps it is no better time than now for RBI to pause the rate hikes and move ahead of the curve!
Soumya Kanti Ghosh is director-economics & research,FICCI.
Anshuman Khanna is additional director-economic affairs,research,foreign direct investment,FICCI. Views are personal
