Follow up to my earlier post on Yield Curves in India

Previously I had written how India’s sovereign yield curve is at best flat or humped at present and there are possibilities of it being inverted at some durations. . Also, in my earlier post, I had explained how INR cannot be stopped from massive depreciation despite the talks of FDI and other so-called reforms. For things to really change in a positive direction, it is domestic manufacturing and investment in infrastructure that needs to improve. The interest rates need to rise and be above the inflation levels for real rates to be positive.

RBI, India’s central bank, in recent days, has taken a series of steps to protect the rupee from further downslide.

Details can be found here

1. RBI announces Measures to address Exchange Rate Volatility

2. RBI announces Additional measures to address Exchange Market Volatility

Various articles explain the reasons for actions taken by RBI in recent weeks. Such as this, and this. No wonder, I feel that Mr. V. Anantha Nageswaran has been sympathetic to our RBI governor.

RBI actions are similar to those taken by other economies with huge CAD and slowing GDP growth rates such as Turkey and Indonesia. While the latter economies explicitly raised benchmark interest rates, RBI has thus far only indirectly raised the short end of the curve through the actions. 

In the backdrop of RBI’s liquidity tightening measure, yield curve shifted upwards with the 10 year G-sec yield rising sharply by ~100 bps from 7.4% to ~8.4%. The interesting aspect is that RBI also accepted 11% yield in 91-day and 10.47% yield in 364-day T-Bill auctions. This is clearly an indication of RBI’s intent to see an inverted yield curve. This also means that RBI is no longer bothered about growth but ensuring that INR doesnt fall from these levels. Another aspect is that because of the tight liquidity, banks may be forced to hike deposit rates. This would be actually good since it may bring back investors to bank deposits and increase the savings rate of the economy. In any case, I have always suggested that rates need to rise rather than fall for real rates to turn positive.

The actions also have a marginal positive impact on INR. Since RBI cannot control USD, it decided to squeeze the supply of INR in the system. Thus, INR has appreciated from 60-61 to ~ 59-60 in last few days. The interesting aspect is that INR hasnt appreciated significantly as expected by some market participants. As this post is being written, INR is now below 59. Whether the effect is temporary or INR comes back to 60 remains to be seen.

I continue to believe that it would take a change in government and its policies for the turnaround of the economy. The present government continues to go on its path of wasteful social and consumption expenditure rather than capital expenditure.


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