A harbinger of things to come here too at the 5th Aug RBI meet? The dialogue, "Ab tera kya hoga kaaliya" resonates in the same Gabbar voice!
That’s the thought which came to mind when the Fed tonight hiked rates steeply by an aggressive 75 bps; from near zero in March, the rates now stand in the range of 2.25 to 2.50% - all within four months time. Taming inflation is the sole focus, talks of recession notwithstanding.
And this is not the end; in the statement issued by the Fed, it signaled that more is coming, saying that it “anticipates that ongoing increases in the target range will be appropriate.” Fast paced rate hikes is essential as US inflation is at a 40-year high and time is of essence if the intention is to bring it down quickly.
How does a hiking rates temper down inflation? Higher interest rates cool down demand – when loans become costly, fewer people buy houses or take debt to expand. Lower economic activity means the mismatch between supply and demand will soon balance out – that’s economics.
But what many are fearing that the economies might start adjusting to this new era of rising costs. After facing more than a year of fast paced price rise, many expect inflation to stay. This in turn means people and businesses might soon start adjusting their behavior to rising costs with the salaried/working class demanding pay hikes and companies passing on the higher cost of production to the consumers. Expecting inflation to be permanent? Nah, that won’t happen as prices will start cooling down. And if economic growth starts falling precipitously, the future rate hikes will be less aggressive.
What will RBI do on 5th August? Not an aggressive rate hike but a rate hike for certain. Here for us, prices have started showing some small signs of cooling down; seasonally too, it does come down a bit now. But the prices cooling down will not be as fast paced as it rose; it will be gradual and very slow. Thus we will see pain for this fiscal with signs of improvement expected in Jan-March quarter – that is hoping all things stay same and there is no new pandemic, tariff war or war.
There are many who fear that FIIs will scoot, lock-stock-barrel. Unlikely. FIIs simply cannot afford to move out lock, stock and barrel out of India as the opportunity that the country presents it too good to ignore.
What we are witnessing now and will see in the coming days, is a very logical reaction to higher interest rates in the US as it removes or reduces arbitrage opportunity. FIIs are not getting out due to systemic issues; its simple, tactical and profitable to sell now when the rupee is weak.
More importantly, this time around, the power of India’s retail investors is huge and that will not allow a crash into the abyss.
Also, one has to remember, it is not the money from FIIs alone which drives stock prices – it is corporate performances too and individual companies have got on to various cost cutting measures and improving production efficiencies. This means hard times have made companies leaner, fiscally more prudent and efficient. Isn’t that the good side of rate hikes?