Do it yourself

The 3-day bi-monthly meeting of the Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI) begins today. This would be the last meeting before presentation of the Union Budget for the year FY26. The members of the MPC would draw inputs from the latest national accounts (2QFY25 GDP data); October 2024 inflation data; October 2024 Professional managers’ survey results; September 2024 IIP estimates; November 2024 PMI and core sector growth data; April-October fiscal balance data; global developments (political and geopolitical); global inflation, rates, currency and market trends; expert opinions and views of the members of MPC; and assessment of the current and future situation provided by the staff of RBI.

The statement of the MPC on macroeconomic outlook and likely direction of the monetary policy will be a key input in preparation of the Union Budget for FY26. However, the market participants’ interest in the MPC meeting appears limited to whether, or not, at 10AM on 6^th December 2024, the RBI governor announces a repo rate cut and/or a cut in the cash reserve ratio (CRR). Some TV show panelists might also bother to note the downward revision, if any, in the growth estimates for FY25.

If the MPC decides to maintain a status quo on its policy stance – considering growth slowdown a temporary blip expecting a recovery from 3QFY25; and continue to accord higher weightage to still elevated inflation and highly uncertain and volatile global conditions, the market participants may be hugely disappointed.

Not to cut: In the October policy statement, the governor had adequately hinted about its preference for price stability over growth (see here). Perhaps RBI is much more conscious about the looming external threats, especially the balance of payment situation if there are sudden FPI outflows; or the FDI flows get restricted; or remittances are affected.

Or to cut: In the recent weeks, RBI has allowed USDINR to sustainably breach 84 mark. It appears that it may want USDINR to weaken further before Trump takes over the US presidency on 20^th January, and urges its trade-surplus trade partners to strengthen their currencies. We have seen a similar weakness in USDCNY also, for example. A token 25bps or an aggressive 50bps rate cut could drive USDINR to 86 in near term, providing RBI a leverage to engineer a ~5% USDINR appreciation to ~83 level in the next three months.

In either case, the transmission of the lower rates may not be in the corresponding measure, as RBI might continue to control credit growth and liquidity to reign inflation, asset quality and excessive unsecured lending. I therefore would not expect a CRR cut. I am however mindful that the market is pregnant with the hope of a CRR and/or repo rate cut and no action in this regard may lead to a sharp sell-off in financial stocks, especially NBFCs.

The market participants may also take note of the following three potential near term risks:

·         Besides the real GDP growth, the nominal GDP growth has also fallen to 9% in the 2QFY25. A lower nominal GDP growth directly impacts the tax collections and corporate profitability. November manufacturing PMI is at 11 months low. Core sector growth has also been low in 3QFY25. Expecting an immediate revival of growth in 3QFY25 may not be prudent; and the RBI may not mind a transitory higher inflation to boost nominal GDP growth.

·         The president-elect Trump has explicitly threatened the BRICS nations to refrain from any misadventure that would impact supremacy of USD. It may purely be rhetorical to gain some upper-hand in trade/sanctions negotiation with Xi and Putin. Nonetheless, it could cause higher volatility in the global markets. It becomes critical given that BRICS members supply two thirds of global fossil fuels.

·         The outgoing president Biden has provided a complete pardon to his son, who was facing multiple criminal charges in the US. Biden had earlier categorically denied this favor to his son. Experts are interpreting this as an indication of rising fear of a widespread witch hunt by the Trump administration. The witch-hunt, if it does take place, may not remain restricted to the domestic political opponents of Trump. 

In recent days the following three global trends have evoked much interest amongst market participants:

1.    The production, consumption and import of commodities in China have increased materially.

2.    The USD weakness is persisting. The China letting CNY appreciate against USD is noteworthy.

3.    BP in its yearly outlook virtually declared "peak oil" demand, stating that the oil demand growth may not be seen through 2050.

These three trends are important in my view as these could materially influence the markets in short term.

For past two decades, China has been a major driver of the commodities' demand and hence prices in the global market. The slowdown in Chinese economy in past 5years has led to correction in commodity prices, impacting a large number of commodity driven economies like Australia, Canada, OPEC countries, Brazil etc. This is cited as one of the reasons of sustained deflationary pressure on US, Japan and EU economies. The central bankers in these economies have been able to unabashedly print money to support their fiscal profligacy as the inflation has not been a concern.

As per the latest reports that trend might be about to change. As per a recent ING Bank research report, "Domestic demand is driving China's economic growth. Retail sales returned to positive growth. And new-infra and traditional infrastructure investments increased, which matched the growth in these items in industrial production. But external circulation may remain a challenge to growth." The reports further highlights that "China’s new-infra plan and traditional infrastructure projects in transportation have led overall investment spending. Fixed asset investment (FAI) shrank only -0.3%YoY YTD in August from - 1.6%YoY YTD in July. The "computer, telecommunication" category, which represents new-infra investment plans, grew 11.7%YoY YTD, which results in part from China’s push towards self-reliance in technology. Rail transportation investment also grew 6.4%YoY YTD.

These growth numbers are high compared to the headline growth rates, which means these are the engine of investment growth in China currently."

The Chinese monetary authorities recently allowed CNY to appreciate below 6.8/USD level. This could be seen as a reconciliatory gesture by Chinese authorities to the global community. China has allowed CNY to weaken even above 7/USD level in the trade and currency war with USA and Japan. The international relations of China have worsened materially after the outbreak of COVID-19 pandemic. This reversal of CNY could be seen as first, though small, sign of China wilting under global pressure. This could be comforting news for the global markets.

British Petroleum's (BP) annual outlook fo energy market is respected world over. Last year, BP forecasted demand for fossil fuels could peak by 2030. However, in 2020 outlook, BP has made a major shift in its assessment. As per the energy major, peak demand for oil may have already happened. The report implies that global crude demand may never again surpasses 2019’s average of around 100 million B/D. A natural corollary to this is that that 2019 could also mark the peak of carbon emissions from energy use.

This may potentially change many things - global trade balance, sustainability investments, geopolitics, cost of doing manufacturing, etc. Arab world countries making conciliatory moves towards Israel may, for example, be just one of the effects of this. BP announcing major investment plans with RIL in renewable energy sector to support electric mobility is another.