Rate-hike bets in India escalate ahead of possible global tightening

Five-year interest-rate swaps jumped 63 basis points in February, reflecting growing expectations of a tighter monetary policy

The global economic recovery is fueling speculation central banks will soon be shifting into tightening mode -- nowhere more so than India.

Five-year interest-rate swaps jumped 63 basis points in February, the biggest advance since the 2013 taper tantrum, reflecting growing expectations of a tighter monetary policy. Swap rates signal India will see the most rapid tightening of any nation in Asia, according to Standard Chartered Plc. Fears of a resurgence in inflation driven by rising oil prices is adding to the speculation.

“The market is swept up by high intensity global reflation trade,” said Suyash Choudhary, head of fixed income at IDFC Asset Management Ltd. in Mumbai. “Within this, India’s sensitivity to crude oil prices as well as the V-shaped rebound in economic activity may be creating divergent expectations of the monetary policy path ahead.”

Rate-hike wagers are building around the world as optimism over an economic rebound is complicated by concern that inflation is quickening following an unprecedented period of rock-bottom borrowing costs. In India’s case, this is posing a thorny challenge for central bank Governor Shaktikanta Das, who has vowed to keep monetary policy accommodative as long as necessary to support the recovery.

Indian swaps are pricing in an increase of about a percentage point in rates over the next calendar year, compared with a quarter-to-half a percentage point earlier this year, according to ICICI Securities Primary Dealership Ltd.

‘Pump Prices’

Swap markets across Asia are signaling tighter monetary policies going ahead, making it challenging for central banks to nurture a recovery without stifling growth. While India’s consumer-price inflation is still within the Reserve Bank of India’s 2%-to-6% target range, economists see the second round effects of higher pump prices soon feeding into the headline print.

India’s benchmark 10-year bond yields have surged to 6.21%, from as low as 5.81% in January. Similarly, top-rated corporate bond yields have jumped by more than 60 points in 2021, convincing a number of borrowers to scrap debt offerings in recent days amid the volatility.

Policy normalization in India may first see the central bank raising its reverse repo rates by 40 basis points in 2021, according to ICICI Securities Ltd. That would narrow the interest-rate corridor to the pre-pandemic level of 25 basis points.

“Markets are expecting a rise in inflation due to the rapid increase in the monetary base across economies, and more recently the increase in commodities prices,” said Nagaraj Kulkarni, senior Asia rates strategist at Standard Chartered in Singapore. “However, central banks are more sanguine about their own inflation expectations so far.”