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Business News/ Market / Stock-market-news/  Markets bet on policy continuity under Urjit Patel

Markets bet on policy continuity under Urjit Patel

While the stock markets expext a hawksih stance, they see Urjit Patel appointment as the next RBI governor as a positive over the medium and long term

Urjit Patel will take over as RBI governor after Raghuram Rajan’s term ends on 4 September. Photo: Indranil Bhoumik/MintPremium
Urjit Patel will take over as RBI governor after Raghuram Rajan’s term ends on 4 September. Photo: Indranil Bhoumik/Mint

Mumbai: Several challenges await Urjit Patel, 52, when he takes over as governor of the Reserve Bank of India (RBI) next month. Redemption of foreign currency non-resident (FCNR) deposits, inflation and weak bank balance sheets will test his ability to effectively steer the nation’s monetary policy.

While market participants expect a hawkish policy stance by the incoming central bank governor, they welcomed the continuity in India’s monetary policy and see his appointment as a positive for the markets over the medium to long term. That said, bonds, rupee and rate-sensitive stocks may open lower in a knee-jerk reaction on Monday.

In September 2013, when the rupee was under pressure, banks raised $25 billion through foreign currency non-resident (FCNR) deposits, and an additional $9 billion through foreign currency borrowings, and swapped the same with RBI. It is this $25 billion chunk that will be due between September and November.

In June, Rajan had said that he expects outflows of $20 billion because of the maturing process of FCNR (B) deposits, but some expect the amount to be much less.

“As far as FCNR deposits are concerned, RBI has anyway done a pretty good job at managing the volatility. We expect a net outflow of $8-9 billion only, which can be managed easily," said N.S. Venkatesh, executive director of Lakshmi Vilas Bank.

ALSO READ | A safe pair of hands at the central bank

In the monetary policy statement on 9 August, Rajan had said that, as regards the management of the imminent FCNR(B) redemptions, the central bank has been front-loading liquidity provisions through open-market operations and spot interventions/deliveries of forward purchases. “The Reserve Bank will continue with both domestic liquidity operations and foreign exchange interventions that should also enable management of the FCNR(B) redemptions without market disruptions," he had said.

A hawkish stance on interest rates will, of course, dampen any hopes of immediate rate cuts.

“A negative near-term impact on the rates market is likely, as Patel is considered equally hawkish as his predecessor Rajan, if not more so. Thus, expectations of significant policy easing are likely to fade," Standard Chartered Bank said in a note on Sunday.

Patel has been in charge of the monetary policy for some time as deputy governor. This, experts say, will ensure the regulator’s interest rate policies will not be drastically different from Rajan’s.

ALSO READ | Urjit Patel: An agenda of continuity

Year to date, the yield on the 10-year benchmark government bond has dropped nearly 66 basis points to 7.102%, while the rupee has tumbled 1.37% to 67.06 against the dollar. A basis point is one-hundredth of a percentage point.

So far in 2016, BSE’s benchmark equity index, the Sensex, has risen more than 7% to 28,077 points.

However, the market may take comfort in the expected policy continuity on major issues, including inflation targeting and the focus on asset quality of banks.

“Continuation in monetary policy will remain. He is the architect of inflation targeting approach. Investors don’t want any change in policy direction. He has worked with IMF, he has worked with the corporate sector and he was with the Brookings Institution," said D.K. Pant, chief economist at India Ratings.

“So, coming from different areas, he knows how things are and what kind of action is required. The market will welcome it (his appointment). Maybe you will see a strengthening of rupee vis-à-vis dollar if globally there is no turmoil. You may also see bond yields responding," added Pant.

ALSO READ | Urjit Patel: A profile

The thoughts were shared by foreign and domestic institutional investors as well.

“Considering that the market took a hit when REXIT (Rajan’s exit) news came, I would expect a positive reaction now, because Mr. Patel is expected to continue Mr. Rajan’s work. For foreign investors, the continuity of prudent policy is very important, because currency movements affect our returns," Hertta Alava, director of emerging market funds at FIM Asset Management Ltd, said in an email from Helsinki, adding the rupee could strengthen a bit on Monday.

“Some rate-sensitive stocks might react a bit negatively, but medium term, I see this appointment as a positive for the whole market. Interest rates should be cut only when inflation allows that. Short-term populist measures usually create more problems long term," added Alava.

Retail inflation hit 5.77% in June and rose to 6.07% in July, crossing RBI’s upper tolerance threshold of 6%. It is also higher than RBI’s own March 2017 target of 5%. The uncomfortably high inflation rate prompted Rajan to keep the repo rate unchanged at 6.5% on 9 August.

Considering that the market took a hit when REXIT (Rajan’s exit) news came, I would expect a positive reaction now, because Mr. Patel is expected to continue Mr. Rajan’s work- Hertta Alava, director of emerging market funds, FIM Asset Management

Still, the monetary policy statement reiterated that RBI’s stance remains accommodative and it will focus on providing adequate liquidity, helping to improve the pass-through of past rate cuts.

While inflation has quickened for four straight months—and there are upside risks such as the Seventh Pay Commission’s salary hikes for government employees and uncertain core inflation (excluding food and fuel)—the central bank stuck to its forecast of inflation averaging 5% during the current fiscal year.

“Over the medium term, stock markets will bank on the continuity of policy at RBI. He (Patel) has closely seen the developments at the RBI, under Rajan’s tenure. It is like a vice-captain becoming captain, and that is a good choice," said Nilesh Shah, managing director of Kotak Mahindra Asset Management company.

The stress on liquidity and the fact that the central bank will front-load its liquidity infusions have livened up the bond market, where yields dropped to fresh three-year lows.

However, the yields may move up in the near term.

ALSO READ | Does Urjit Patel’s appointment dim rate cut hopes?

“We expect a mild rebound in IGB (Indian government bonds) yields and swap rates, as Patel is perceived to be hawkish. He is also the architect of the RBI’s tight liquidity management framework, and the market will look for reassurance that liquidity will remain comfortable," Standard Chartered Bank said in its note.

“Barring changes in his stance once he takes up his role as RBI governor, the market is likely to re-focus on the CPI inflation trajectory, domestic liquidity conditions and global risk sentiment," Standard Chartered added.

As part of a new monetary policy framework, the central bank and the government agreed to set up a six-member panel to decide on key policy rates. It would have equal representation from RBI and the government; the latter is still finalizing its members.

The monetary policy committee will adopt the formal inflation target of 4% with an upper and lower tolerance threshold of 2% and 6%, respectively, which the government formalized earlier this month.

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Published: 21 Aug 2016, 11:57 PM IST
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