On September 18, a two-day meeting of the Federal Reserve in the US ended, marking a day in the tabs of emerging economies and economists. Such is the significance of strength, that the strong takes action and the impact percolates to the “also rans”. Although this time, the inaction of Fed has resulted in a temporary sigh of relief. The markets cheered and so did everyone else.
The economists feared the repetition of the “June FIIs exodus episode”. It is no news to anybody that past months saw the largest withdrawal of the Foreign Institutional Investors from the Indian debt market. The cause was an announcement from Ben Bernanke, the chairman of Federal Reserve, to taper down the Quantitative Easing. The FIIs, hoping to get a better rate of interest back in their home country, fled in large numbers, devaluing the rupee and leaving India’s forex reserves panting for breath.
But for now, the worst has been postponed, as a conservative vision would figure out and the optimistic would be sure to work out things before the next hammer strikes.
September 20, saw RBI governor Raghuram Rajan deliver his maiden monetary policy review which had been intentionally postponed to fall after Fed’s announcement. This allowed him enough time for making adjustments, if the situation so required.
The markets fell consequently in response to the increase in repo rate from 7.25% to 7.50%. Surely, an effort has been made to make investing in India look attractive, but still the overall impact has been a fall in market. Rajan has very clearly showcased that the RBI is not in a mood to compromise with inflation. Furthermore, the decline in Marginal Standing Facility to 9.50% has been welcomed by banks as the cost of borrowing falls by 30 basis points owing to the fact that Rs 50,000 crore is borrowed through this window.
This still is a debatable point as a fall in MSF will impact only the short term rates, while the repo rate which has seen an increase may leave its mark on the long term rates. Therefore, whether the cost of funds will actually fall and whether this is a real anti-inflationary move will entirely depend on the nature of the funds borrowed. The magnitude of the short or long term is the decisive element. However, RR’s statement that the gap between MSF and the repo rate shall abridge gives the signal that MSF is going to decline further and the repo rate not surge much. This surely makes things better.