Indonesian Central Bank raised benchmark policy rates by 50bps on the 29th of August to stem the trend of a falling Rupiah. Indonesia has raised rates by 125bps since June 2013. Brazil has seen its central bank raising rates by 175bps over its last four policy meetings, the last rate hike of 50bps taking place on the 29th of August. Brazil’s currency the Real has taken a beating against the USD on the back of falling economic growth. Turkish Central Bank has tried to use its policy rates judiciously by keeing the bencmark policy rates unchanged but raising other lending rates including the overnight lending rate to stem the fall in the Lira, that is seeing weakness due its high levels of external debt.
The RBI has resorted to tightening of liquidity and raising overnight money market rates to stem the fall in the Indian Rupee that has fallen to record lows against the USD on the back of worries of financing its current account deficit. RBI measures have not worked in preventing the INR fall but has taken up bond yields sharply by 150bps from lows. Rising interest rates at a time when the economy is slowing, with first quarter 2013-14 GDP at decade lows, is highly negative for growth expectations and for the INR.
RBI will have to take a judgemental call on using interest rates to fight the INR. The moves by Indonesia and Brazil have not helped in tempering the slide in their currencies. However given that its peers are raising rates, RBI will be under pressure to do the same.
RBI has signalled that it does not want long term rates to go up when it statred buying long dated bonds in OMO (Open Market Operations) in the third week of August 2013. The central bank will find it difficult to manage interest rates and the INR at the same point of time with bond yields up by 50bps post the OMO purchases.
Interest rates do not help in fighting currency movements. RBI will have to accept thais fact. Capital controls too will have negative effect on the currency. The central bank will have to use its policy tools judiciously if it wants to do something constructive for the INR. Hence following Indonesia and Brazil will definitely not help.
Currency Movements
The USD appreciated 11.32% against the INR in the month of August 2013. The Brazilian Real, the Indonesian Rupiah, the Malaysian Ringgit, the Korean Won, the South African Rand, the Australian Dollar, the Turkish Lira and the Thai Baht have seen their value decline against the USD by 3.07%, 6.48%, 2.47%, -0.4%, 5.1%, 1.09%, 5.18% and 2.91% respectively in the same period. The central banks of some of the countries have taken steps to control the fall in the value of their currencies but this has had only a temporary effect. The countries with weak economic fundamentals have seen greater amount of capital outflows and therefore the currencies have depreciated to record levels in some cases.
Australian Dollar declined as the nation revised the budget deficit estimates to Australian Dollar (AUD) 30.1 billion from the earlier AUD 18 billion. The Reserve Bank of Australia is expected to keep the interest rates unchanged in the September 2013 meeting. The Brazilian Real declined as inflation remains a concern for the economy.
The USD index that tracks the USD to a basket of six major world currencies (Euro, Japanese Yen, British Pound, Swedish Krona, Canadian Dollar and Swiss Franc) has remained flat at 81.53 for August 2013.
The likely withdrawal of the stimulus by the Fed has increased expectations of higher returns from US equities. The reversal of funds is therefore seen in the emerging market economies and the respective currencies have had a drastic impact. The Fed decision on the tapering of stimulus from September 2013 could have a negative effect on the emerging market economies in the coming months. The emerging market currencies are therefore expected to remain under pressure in the coming months.
Markets
The month of August saw a decline in the Sensex and the Nifty by 4.89% and 6.01% respectively on account of deteriorating economic fundamentals and the depreciating rupee. Indian equities fell along with government bonds and the INR. The INR touched record lows of Rs.68.83 to the USD and the bond yields increased 53 basis points to 8.77% in August 2013 from 8.24% in July 2013. FIIs were net sellers in the debt and equity market to the tune of Rs.14,453 crores in the month of August 2013.
The WPI inflation increased to 5.79% in the month of July 2013 over 4.8% seen in the month of June 2013. Inflationary pressures would remain on account of the INR depreciation and higher crude oil prices due to tensions in Syria and Egypt. Brent crude Oil rose 8.58% to USD 116/bbl and gold rose 6.17% to USD 1412/Oz in the last month. The rise in oil prices incresaed USD demand from Oil Marketing Companies (OMC) and the RBI as a measure to curb INR depreciation introduced a foreign exchange swap facility to meet the daily needs of the state owned OMC.
The World benchmark indices also declined on a month on month basis as emerging markets witnessed outflows and the developed markets remained cautious about the Fed’s stance. European markets were marginally flat to negative on a month on month basis as the worst looks to be over for the Eurozone economy. The European Central Bank indicated that interest rates in the euro zone will continue to remain low for an extended period of time.
The Dow Jones Industrial Average declined 4.38%, the NASDAQ was marginally up by 0.11% and the S&P 500 declined 1.62% on a month on month basis in August 2013. The second quarter GDP growth rate for the US economy was reported at 2.5% per annum as against the first quarter growth rate of 1.8%. Positive economic data is expected to taper the bond purchases program of the Fed, leading to a withdrawal of the stimulus for the US economy.
The Consumer Price Index (CPI) data for the Japanese economy was reported at 0.7% growth on a year on year basis and a 0.0% growth on a month on month basis in the month of August 2013 thus showing a positive change. The Nikkei rose 48.42% and the Japanese Yen depreciated 24.97% on a year on year basis to reach 98.25 per USD.
