Global rates, Rate differential, 2007 redux and more...
This Week In Data #28
In this edition of This Week In Data, we discuss:
The increase in rates by US Fed and ECB
Strong US GDP growth
Rate differentials back to 2007
Resilient debt flows
Increase in tomato and pulses prices
In case you missed, we published this DataSpot last week on the Services Exports story of India. We also released a new section DashboardsPlus on IndiaDataHub that provides detailed and granular information compared to regular Dashboards. See a quick overview of the EXIM DashboardPlus hereThis past week was among the quietest weeks in terms of domestic data flow. But a lot happened globally. The most important being the US Fed raised the Fed Funds Target rate by 25bps taking it to between 5.25-5.50%. The effective Fed funds rate is now at 5.3%, the highest since August 2007! More importantly, the Fed kept the door open for further rate hikes. Indeed, the Fed fund futures are currently suggesting a 30% chance of another 25bps rate hike from the Fed before the end of the year.
The ECB also raised its policy rate by 25bps to 4.25%. And while the Bank of Japan did not change the policy rate, it did signal an end to its ultra-easy monetary policy regime of the last few years given that inflation in Japan is running well above the BoJ’s acceptable level. The point is that global rates look like they may not have peaked yet.
And what will make this more likely is that on Thursday the US reported strong GDP growth. GDP grew 2.4% at an annual rate during the June quarter, higher than the 2% growth in the preceding quarter and well above the consensus estimate of 1.8% growth.
On a YoY basis, US GDP grew 2.7% during the June quarter, the highest since the March quarter last year. Stronger GDP growth and a still resilient labour market increase the odds that the Fed will have to ‘do more’ to slow the economy to bring inflation down to acceptable levels.
This is happening even as the RBI has gone on an extended pause. A hawkish pause as some have called it. And what this has done is that interest rate differentials between India and the US have narrowed to historic lows. We have mentioned this before this in this newsletter, but now we have a chart to back it up(!).
The inter-bank call money rate in India is currently ~100bps above the effective Fed Funds rate (after the Fed hike). The last time it was at this level, on a sustained basis, was in the second half of 2007. And if the Fed does rate again later this year (and the RBI remains on hold), we will be in uncharted waters. This by itself is not enough to suggest that any non-benign event must happen for this to reverse. Or maybe this is the new normal. Nevertheless, it is a bit disconcerting.
And curiously, there are parallels between what was happening then and what is happening now. In the second half of 2007 the Fed, just like now, was hiking interest rates and the RBI had gone on a pause after having increased the Repo rate by 175bps in the preceding few quarters. The Fed continued to raise rates and the RBI had to eventually play catchup before in October 2008 the (financial) world almost came to an end and rate differentials normalised again with the Fed embarking on the first of its QE programs.
What is also interesting is that in the face of such narrow rate differentials, FPI inflows into Debt have remained positive. July is on track to be the 4th consecutive month of positive FPI inflows into the debt market (including Debt VRR) with cumulative net buying of over US$2bn. Indeed, barring March, every single month this year has seen net buying by FPIs in the Debt market. The rate differential even in the sovereign bonds at the short end of the curve is 100-125bps and one must wonder whether this extra yield is worth the currency risk. Unless the risk of rupee depreciation is being accorded a low probability.
Ok, enough of the dense monetary discussion. Let us get back to India and tomato prices! All India modal tomato price has increased further to ₹120/kg from ₹100/kg at the start of July. Onion prices also increased by 20% in July, but they had increased by a similar magnitude in July last year. And that of Arhar or Tur dal has also increased in July – Arhar is the biggest Pulses Kharif crop.
So it looks like July inflation will rise sharply as the full impact of these vegetable and pulses prices will get captured. We wouldn’t be surprised if July CPI prints above 6%. Not surprisingly then, long bond yields have risen domestically. The 10-year bond yield has increased ~15bps in the last couple of weeks.
Some of the recent corporate results, especially on the consumption side, have been weaker than expected raising questions about how strong the domestic economy is. And even as the macro picture has once again become a bit hazy, equity markets continue to remain buoyant. While large-cap indices fell ~1% last week, mid and small-cap indices rose. And globally too equities had a strong week. The S&P500 was up 1% and European stocks were also up over 1% during the week. The Shanghai Composite rose over 3%.
That’s it for this week. After a pause this week, data flow will resume next week as a new month starts. See you next month!