Perspective on Economy: June 2015

Questions Submitted by Bloomberg (KG)

External Developments & Exchange Rate

Q1: We have rates tightening coming in the US, while ECB and BOJ are easing policies. How do you see these diverging monetary policies impacting the rupee?

A1: The rupee appreciated by 10% in REER36 terms, during 2014-15. This appreciation had a negative effect on both the exporting and import competing sectors of the economy and slowed the recovery of the Globalized segment of the Corporate sector.  The real appreciation has been partly corrected in April-June 2015. The tightening of rates in the US, by appreciating the USD against the “index”, will help complete this correction.

Q2: What's your outlook on the rupee? Where do you see the rupee by the end of Dec. 2015? Also, please mention the reasons that will be influencing the rupee in 2015?

A2: The correction mentioned in A1 should be complete by year end. The speed of adjustment will depend on the relative movements of the USD, Euro and Yen and on the change in US monetary policy(formal end of QE)

Q3: On balance, how do you think the RBI will respond to evolving situation?   Will it keep the rates high to defend the rupee amid financial markets volatility or do you think it will cut rates going forward to support growth?

A3: I don’t speculate on what the RBI will do. The policy is quite clear: To dampen excessive volatility in the rupee and to ensure that competitive market forces determine the MLT value of the rupee.  I expect that short term volatility arising from global monetary changes and capital flow adjustments to be limited and manageable.  A Greek exit from Euro could cause a disruption to all economies for about a quarter.

Inflation & Monetary Policy

Q4: What's your outlook on the RBI's monetary policy? Do you think, it should cut rates now since CPI inflation has come down, while growth still remains tepid?

A4: The CPI inflation rate has declined by 3% points over the last 12 months (following a decline of over 2% points during  the previous 12 months), raising real interest rates by 2-3%.  Thus policy rates can safely be cut by 2% points. Aa  0.75% points of this cut has already taken place,  there is room for a further cut in policy rates by 1.25% points.

Q5: When do you think the RBI will start cutting rates? What is it that the RBI is waiting for to cut rates?

A5: I do not speculate on RBI actions. However, one issue which all Central Banks look at is "inflation expectations". Because of uncertainty about global oil prices and about domestic food prices because of differing monsoon forecasts, some surveys do show possibility of a rise in inflation from the current 5% to 6% by the year end. However, others forecast a further fall in inflation. Greater clarity on this issue could determine timing of monetary policy actions.

Oil Price & Deficits

Q6: What's your outlook on the government's efforts to reduce the budget deficit? (do you think, it will succeed in containing budget deficit at 4.1% of the GDP in Fy15 and 3.6% in Fy16)?

A6: I am confident that the Central Government will achieve the fiscal deficit targets for FY15 and FY16.

Q7: How do you view the drop in global crude oil prices and how will it impact inflation, budget deficit and the CAD in India?

A7: The drop in crude oil prices has already helped in reducing the Current Account Deficit and the Fiscal Deficit. The impact on CPI inflation is much less than most analysts have asserted. CPI Inflation in "Fuel and lighting" was about 1.6% in the First quarter of 2013 and rose to about 3% in the first quarter of 2015.

Economic Growth

Q8: What's your outlook on the Indian economy in fiscal year to March 2016? What factors you think will be driving growth?

A8: Though policy reforms are critical to sustained high growth, they will take time to affect measurable economic outcome.  Macro-economic re-balancing (“Macro Pivot”),  “Balance sheet recession” issues and the global recovery  will be key drivers during the current year . Growth will therefore depend on  (1) The speed and strength of the US recovery. (2) The speed and extent of monetary policy loosening (to reverse the tightening that has occurred).  (3) The speed with which the Central Government is able to shift expenditures from consumption subsidies to infrastructure investment. (4) A  resolution of the issue of Non -Performing  Assets(NPA) arising from over-optimistic demand forecasts and forced infrastructure lending by Public Sector Banks, and consequent freeing of frozen assets-credits.

   On current performance on these four issues, I expect GDP growth to accelerate by about 0.5 per cent point over 2014-15. Faster action could accelerate recovery by another 0.25 per cent point (i.e. by 0.75% over 2014-15).