On March 23, 1989, the supertanker Exxon Valdez ran aground on the Bligh Reef, Alaska, spilling 35,000 tonnes of crude. The 300 metre-long, 215,000 tonne ship needed 11 km of open water and 25 minutes to halt. It had a turning radius of 1 km. The officer on watch saw the Reef. But he misjudged the ship's momentum and by the time he reacted, it was too late.
An economy is similar to a big ship in that it has massive momentum and takes ages to reorient. The metaphorical reefs of record deficits have been visible for a while. Action is being taken now. But it may be too late to avert a crisis.
Amazingly, some work got done in Parliament despite the walkouts and the flare up of tensions with Pakistan. The Companies Bill passed and we will soon see the outcome of enforced corporate social responsibility. Maybe the Bill passed only because politicians of all hues see this as a convenient way to milk companies in the guise of funding social work? (Click for graphics)
The Reserve Bank of India (RBI) will soon be under new management. Dr Raghuram Rajan takes charge as the RBI is struggling to set priorities: Does it defend the rupee at all cost or does it target inflation or pay heed to growth?
In April, Rajan wrote, "... India needs less consumption and higher savings. .... Lower government spending, together with tight monetary policy, are contributing to greater price stability." Is this a hint that he will perpetrate the quantitative tightening (QT) Subbarao started in mid-July?
Recent actions appear driven by a knee-jerk determination to hold the rupee inside a range of about 59-61 to the dollar. The central bank has cut money supply, raised interbank rates and sold dollars. Reserves declined $3 billion in the week ended August 2, with $2.15 billion of cash outflow. Import cover is down to seven months, which is the lowest since 1996. Defending the rupee could be foolish if one thinks of Thailand, which blew all its reserves to defend the Baht in 1997. And then, the Baht fell anyway.
India has $172 billion of forex obligations to meet in the next 12 months, including a large private component. Shiv-Vani Oil & Gas Exploration Services has just been served winding up notices after defaulting on $84.5 million of foreign currency convertible debentures repayments. If Shiv-Vani is the first in a line of corporate defaults, there will have to be measures taken to insulate the system. The government of India could perhaps, take a look at the disaster in Ireland, where the government took on private debt obligations.
Starting Monday, the RBI amplifies QT. It will float a weekly Rs 22,000-crore issue of "cash management bills" (CMB), removing Rs 88,000 crore of liquidity per month. The CMB is described as a "temporary measure". It will push short-term rates up for sure, and there is no deadline for easing.
Prior to the CMB, Crisil reckoned net non-performing assets (NPAs) would rise by about 0.7 per cent of advances in 2013-14 and also that 30 per cent of repayments due to Indian banks would need refinancing. Those estimates need to be revised up, with the increased quantum of tightening. This would further stress out a banking system, which is already handling over 2 per cent net NPAs and roughly 5 per cent of restructured loans.
Will the QT lead to rupee stabilisation? If the foreign institutional investors (FIIs) sell enough rupee assets, the dollar will appreciate regardless. In August so far, the FIIs sold a net Rs 4,800 crore of debt and bought Rs 580-crore net equity. In June and July combined, net FII sales were Rs 60,000 crore, comprising Rs 17,000 crore of equity and Rs 43,000 crore of debt. It seems FIIs are exiting all rupee debt and cutting equity exposure also.
Foreign i-banks are uniformly bearish. Adding weight to the Goldman "underweight" recommendation, Morgan Stanley has also cut India targets. Deutsche Bank, Bank of America-Merrill Lynch, Nomura and JP Morgan have also issued bearish statements. A sovereign rating downgrade is now odds-on as well.
Inflation and industrial production data comes in over the next fortnight. July inflation will have risen, given the currency trend. The index of industrial production for June may show little improvement, going by private sector data and corporate results. Q1 results have been almost uniformly poor. Among the more recent results, Tata Power, NMDC, Jet Airways, Coal India, Sun Pharma and Tata Motors have all delivered negative performances.
Much of this was expected and discounted but the traditional defensive sector, pharmaceuticals, is coming under unexpected pressure. Pharma majors have generally delivered poor results. The industry has been hit by a double-whammy. The US Food and Drug Administration has tightened its inspection and testing standards, even as a new Drug Pricing Control Order has put ceilings on the prices of 348 drugs.
There is also the can of worms being uncovered at the National Spot Exchange Ltd. This bears the hallmarks of a scam that will entertain us all for years. As of now, there appears to be limited chance of broader impact. But unwinding will take time and fresh revelations could impact the broader market.
On the technical side, the Nifty has tested its 2013 lows at 5,475-5,480. It is hitting resistance above 5,600-5,650. All technical indicators suggest a further downside. The CMB may contribute to bearishness since it will reduce the resources that domestic institutions can deploy. The Bank Nifty has hit a new 52-week low, reflecting financial sector expectations.
Morgan Stanley cut its target Indian trading range to Nifty 5,200-6,000. This could be optimistic, if rupee rates rise, growth stagnates and the balance of payments position doesn't improve. The lower end of that zone could soon be tested.
Disclaimer: These are personal views of the writer. They do not necessarily reflect the opinion of www.business-standard.com or the Business Standard newspaper
