Early September saw India’s Q1 2022-23 GDP growth rate at 13.5% falling short of RBI’s target of 16.2%. Slower than expected growth usually requires the interest rate to be cut. Ironically, by end of September, RBI had to raise the repo rate by another 0.5%. Most people expected this increase since US had raised the interest rate recently triggering exodus of investors from India to US. The US economy acting as a black hole is sucking global liquidity through successive massive interest rate hikes. Euro, Yuan, Yen, Pound or Rupee all seem to have gone feeble. Economies are drained of the strength to hold on to their capital. Raising interest seems to be the only defence against this onslaught. It’s like monetary union where countries lose their autonomy over the monetary policy. But, a monetary union attempts to balance interest of all member countries. Is US doing it? No. In fact, more hikes are in offing!
Unilateral decisions by US
March 21, 2022, before the Business Roundtable’s CEO Quarterly Meeting held at Washington, President Biden remarked “there’s going to be a new world order out there, and we’ve got to lead it. And we’ve got to unite the rest of the free world in doing it”. This came fresh after Fed raised interest rate by 25 bps, the first since 2018. Since then, a whopping 2.75% hike has been done in four announcements. These hikes are unilateral and conflicting with Biden’s words “…got to unite the rest of the free world in doing it”. Bloomberg Columnist Marcus Ashworth writes, “If the Fed does raise rates with a vengeance, the effects will be felt outside of its national purview: Parts of the global economy will break.” The article is titled “Jerome Powell to the Rest of the World: Drop Dead”.
Contrasting situation in India
India is celebrating Amrit Kaal in a sharp contrast to ‘drop dead’. Contrasting are its actions in managing the economy. During the COVID onslaught, US relied on triggering demand by printing $120 billion a month and targeting near zero interest rate. Several America based economists suggested the same for India too. Nobel Laureate Abhijit Banerjee has been quite vocal in prescribing India to print more money and not worry about fiscal deficit. His statements, first in April 2020 and then in June 2021, made people apprehensive about India not following the ‘helicopter money’ approach, fuelling passionate discussions that flooded the social media. The US and Indian geo-political interests may match to a large extent but the two have stark differences in the structure and size of the economy. The differences compel India to follow a strategy suited to its economic interests. In a globalised world, wired through strong trade and capital flows, unilateral decisions can create turbulence for other economies. The magnitude of turbulence increases with GDP size of the country. So, when US sneezes the world gets cold. India can’t afford the kind of cures that US has. Rapid fire printing of dollars followed by rapid hikes in interest rates can’t be emulated.
Most economies will tumble in doing so. Some economies will tumble otherwise too as Ashworth says. Can India duck these salvos? Is there a way out of this mass demand destruction? Is following the US interest rate hikes a good strategy? Will it prevent capital outflow? So far RBI has raised repo rate as defence to US rate hikes. Higher repo rates seem to weigh heavy on India’s GDP growth. The GDP growth prospects for 2022-23 have seen downward revisions from international rating agencies, IMF, World Bank, RBI and SBI. Budding green shoots of growth are getting crushed. India can’t afford to shake the investors’ confidence. The PMI for manufacturing and services look to be healthy in August. Bank credit growth rate, too, at 15.5% during August seems to be encouraging. But, rising repo rate can dent the confidence. Slowing GDP growth coupled with high imported inflation can spell doom for the economy.
Dispel inflationary fears
It needs to be understood that higher than targeted inflation in India is not due to domestic reasons. Hence, it can’t be addressed through domestic reasons. The first rate hike by RBI in May 2022 was in anticipation of rate hike by Federal Reserve Bank. It wasn’t done to curb inflation. Inflation in India was and is much lesser than US, EU and other neighbouring countries, except China. Higher inflation in other countries enhances our global competitiveness and exports. Higher exports keep our factories chugging and provide employment. This needs to be kept at the highest priority. Free ration to 80 crore people, going on for last two years, has helped in curbing the pain inflicted by inflation to the poor. It was to end in this September, but is retained. Raising interest rate in India is like giving a tight slap to the child crying for milk since milk is not there. Increasing supply is the solution. Raising interest rate will choke supply.
Is there a risk of rupee sinking if RBI doesn’t match Fed’s interest rate hike?
Despite this fear held by many, it doesn’t look to be happening. The US can’t afford dollar to keep getting stronger. The current account deficit of US in the second quarter is around $250 billion, 4% of its GDP. Previous quarter it had reached around $270 bn. The deficit reduced due to increased export of crude oil from US. Courtesy Ukraine–Russia war. The US’s current account deficit during the decade 2010 to 2020, ranged between $80 – $120 billion. In the last two years, it has zoomed by 250%. This is unsustainable. The US dollar has to get weaker to get the economy stronger. If US dollar stays strong while rupee gets weaker, it will stimulate export demand in India. The export target of $750 billion for the fiscal 2022-23 is stiff. Weaker rupee will help. Russian oil will help too. The RBI need not raise the interest rate anymore. Raise the toast to achieving record high exports!
Views expressed above are the author’s own.
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