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2013: The Year Of Contradictions

Monday, December 23, 2013
By Murthy Nagarajan

Murthy Nagarajan Head, Fixed Income, Quantum AMC.

It’s been a roller coaster ride with the fun coming at the end. That’s how it was for the stock markets, which began 2013 on a positive note, then turned pessimistic and ended in near euphoria with the indices recording new all time highs as the year came to a close. In between what was witnessed were gyrations which would put even a belly dancer to shame; so much for the stock markets.

In contrast the economy stuttered and suffered in-between domestic and international uncertainties. On the domestic front, the tyranny of inflation coupled with the increasing Current Account Deficit (CAD) and sliding industrial growth kept both the government and the RBI on its toes. Bad politics and bad economics added to the misery. Internationally, the battered global economy and the US tapering plans and its potential consequence on India pressured the rupee and added to the violent fluctuations in equity and gold prices. Oil also proved a dampener for the country.  So how should 2013 be perceived and what does it portend for the future. We began with perceptions for this issue and asked experts across all major sectors including the Stock Markets, the Economy, Real Estate, Banking and Bullion amongst others on their take on the situation. On the following pages their views and perceptions unfold …

Economy Faces Many Worries
The Calendar year 2013 was a testing time for the Indian Economy. GDP Growth for the last two quarters averaged 4.6% levels, a high Current account deficit created problems for the rupee depreciation. CPI inflation continued to remain in double digit and WPI inflation moved to 7% after showing initial signs of coming down.

 The major events of 2013 were the Federal Reserve of US, indicating a tapering of its bond buying programme of 85 billion USD due to the US economic picking up momentum. The Federal Reserve would unwind its quantitative easing, as unemployment rates came down to 7% levels and inflation levels moving up to 2% levels. The unemployment rates in US fell to 7.57% levels by end June 2013, from a high of 10% levels in December 2009.  Emerging markets currency and stock markets suffered a sharp fall and their bond yields move up.

The other big India specific event was rating agencies threatening to downgrade India to junk status due to the high fiscal deficit and lack of progress on reforms front. Rating agencies felt the government needs to do more on structural reforms to bring the economy back on track.  The Indian currency recorded the largest depreciation amongst BRIC countries with the currency depreciating from Rupee 53.60 to a dollar in the month of February 2013 to 68.82 levels in the month of August 2013. FII debt investment came down from a high of 38.52 Billion USD in the month of 21st May 2013 to 24 billion on 28th November 2013.

The bond market yields moved up as RBI tightened liquidity by reducing the amount of borrowing through REPO to 0.5 % of NDTL and increased the MSF rates to 300 basis points over repo rates from 100 basis points over repo rates . This was done to reduce speculative and self-fulfilling activities of market participants with respect to the rupee. The currency did not stabilise even after these measures forcing the government and RBI to do further non-monetary measures to increase dollar liquidity and reduce demand for the USD. The government in order to reduce gold imports increased the import duties from 2% to 10% levels; it also restricted gold imports by putting a condition that 20 % has to be exported for every 100 percent of imports. In order to augment dollar supply, RBI introduced an FCNR (B) Scheme in which it provided concessional forward rates of 3.5% levels for banks. Banks could swap their dollars of 3 years maturity with RBI at 3.5% against the prevailing rate of 8 % levels. It also allowed banks to borrow for one year in the overseas market with forward rates 1 % below the rates prevailing at that point of time for the one year swap. This led to 34 billion USD flowing into the Indian markets over a three month period.

These measures along with the depreciation of the rupee led to imports decreasing largely in gold and exports picking up particularly in textiles. The current account deficit stabilised at USD 5.2 billion for the quarter ending July-September 2013 compared with 21 billion in the quarter ending April- June 2013. RBI forex reserves increased to 295 billion USD for the week ending December 6 from a low of 275 billion which it touched on 6th September 2013.

These measures are however only temporary and gave the government time to rectify the huge current account deficit.  The solution was to bring savings rates up, by giving investors some real rate of returns after adjusting for inflation at consumer end.  The Government and RBI also wanted to curb some unnecessary consumption expenditures in the economy.  RBI has indicated it would like to curb inflation expectations by modulating repo rates and not through making liquidity tight and accessing the MSF rates. The hike in MSF was only to reduce speculative position on the rupee. Accordingly, as the currency has stabilized due to forex inflows and lower current account deficit, RBI has gradually allowed lowered MSF rates to come back to 100 basis points over repo rates. It has also allowed liquidity to flow back into the system by doing term repo of 40000 to 50000 crores. The call rates are now anchored near the repo rates prevailing in the system.

The equity market recovered and record FII inflows came into the equity markets. FII have invested 18 billion till date during this year. However, FII debt investment has been negative of 8.27 Billion. The bond market was spooked as the RBI governor changed the focus from WPI inflation to CPI inflation. Inflation reading above 10 % on a consistent basis, led to hike in policy rates at every policy meeting or review by RBI. The repo rate now stands at 7.75 % levels.

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